Croatia anticipates economic boost as it prepares to adopt euro

Ivo Božić, a vendor selling trinkets at the Christmas market in the Croatian capital Zagreb, is used to handling large amounts of money and thinks the transition will go smoothly when the country adopts the euro on January 1.

“If you work with tourists, you definitely have a lot of money on your head,” said Božić, whose clothes include dolls in colorful clothes, fridge magnets with Christmas patterns and handmade jewelry. “I have bank accounts in multiple currencies and I think I will consolidate them next year,” he added. “I bought some of my things with euros.”

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When Croatia next week becomes the 20th country to use the euro it will be a remarkable thing for a nation of 4mn people that has been trying to integrate closely with the rest of the EU. Croatia will also join Europe’s borderless Schengen area.

The change from kuna should bring benefits, say economists, because Croatia relies on one currency for more than half of foreign trade, two-thirds of foreign direct investment and 70 percent of tourists.

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It would be a sign of growing European unity just as Russia tries to undermine the bloc’s opposition to its war in Ukraine. The president of the European Central Bank, Christine Lagarde, called for an additional “vote of confidence in the euro area” and said that Croatia would benefit from the “euro shield”.

Adopting the euro is in some ways a natural progression in a country where the single currency already accounts for half of bank deposits and 60 percent of loans – more than any other country outside the eurozone.

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“Croatia is the country that stands to gain the most from joining the eurozone,” as it will eliminate foreign currency risks, said Boris Vujčić, governor of Croatia’s central bank. “The risk of foreign exchange in Croatia is the highest.”

“When your currency goes down against the euro it means your debt is worth more,” said Vujčić in an interview with the Financial Times. “So your borrowing costs as a country are higher to reflect this risk.”

The supermarket in Zagreb already displays prices in both local kunas and euros. © Denis Lovrovic/AFP/Getty Images

Croatia has 27 billion euros in foreign exchange reserves – 40 percent of its gross domestic product – to cover this, he said, although joining the euro means “it won’t need anywhere near that.”

The benefits of the euro are “very visible in times of crisis”, Vujčić emphasized, referring to the recent pressure to sell in the Hungarian forint, the Polish zloty and the Czech krona. “They had to step in and raise interest rates significantly and their 10-year government bond yield is now 5 to 8.5 percent,” he said.

In contrast, Croatia’s 10-year bond yield was around 3.5 percent, lower than Italy and Greece and higher than Spain, although it has not yet joined the euro. “There is a lot of credibility,” said Vujčić, who will vote on ECB policy decisions from January after joining meetings as an observer.

Vujčić recalled how prices soared out of control in the former Yugoslavia and Croatia in the late 1980s and early 1990s, suggesting he take a hawkish stance to aggressively moderate inflation that has troubled European policymakers.

“I have seen the beast and I know how the beast behaves if it is not checked in the right way at the right time,” he said.

He acknowledged the risk that Croatian consumers will blame for bringing the euro because of high inflation, which last month hit 13.5 percent. Yet, on average, countries that have used the euro have experienced only 0.2 to 0.4 percent of inflation, even in periods of low inflation.

To improve price transparency, Croatian shops have had to display the cost of goods in both kunas and euros since September and will continue to do so until the end of 2023. to raise prices.

“The offer comes at a time when inflation is already high, so the first point is that Croatian consumers are very interested in the price,” said Michał Seńczuk, chief executive of Studenac, one of the main Croatian grocery stores. “That makes it difficult for any retailer to impose unfair price increases because, if you do, customers will go to your competitors.”

The change has been a logistical challenge for retailers and authorities. Studenac had to print and display new price labels for 5mn, while his staff had to explain to confused customers that they cannot accept euros until January 1, after which both currencies will be used the same for two weeks.

Seńczuk predicted that as well as boosting tourism, having the euro would make Croatia “more attractive to foreign buyers looking for second homes, maybe for summer vacations or the mild winters we have here.”

However, the central bank has brought in the army to keep and guard the 40 percent kuna that is expected to be exchanged for euros.

“That’s almost the weight of the Eiffel Tower,” said Vujčić. “We will sell it as metal after three years and then the army can put tanks or armored vehicles [back] in storage.”

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