The column of Governor Boris Vujčić in the Nacional weekly was published on 21 November 2024.

Economic experts sometimes evaluate the health and dynamism of individual economies using a methodology known as the "duck test". According to this test, a bird that looks, swims and quacks like a duck very likely is a duck. This means that the state and development prospects of an economy are interpreted on the basis of economic indicators and statistics such as GDP growth, inflation, unemployment, public debt or the balance of payments position. However, these statistics are rarely unambiguous – economists have "two hands" and, for example, strong economic growth and low unemployment automatically raise fears of overheating the economy, inflation or deepening external imbalances.

The "glasses" that economists observe are most often semi-empty or possibly half-full. However, when I talk about the domestic economy with experts from international financial institutions, investment funds investing in securities or rating agencies, these conversations are unusually positive. They congratulate regularly on the relatively high growth rates, which have been at the top among European countries for the fourth consecutive year. They also praise the noticeable increase in GDP per capita, which from the level of about two-thirds of the EU average a few years ago came close to three-quarters of that average. Analysts and experts particularly appreciate that this growth was achieved with a continuously positive balance in the current and capital account of the balance of payments, so that foreign claims, mostly related to foreign assets of the CNB and banks, have exceeded the amount of Croatian external debt. At the same time, the number of unemployed fell to its lowest level since the early 1980s, although it should be taken into account that this decrease was supported by unfavourable demographic trends and intensive emigration after accession to the EU. In addition to elevated inflation in previous years, strong growth has also allowed the public debt-to-GDP ratio to decline significantly without excessive austerity measures. And this year, inflation, which is measured by the national consumer price index, a relevant indicator for domestic consumers, has also hovered in recent months around the "magical" figure of 2 percent. All this prompted the International Monetary Fund to include Croatia in advanced economies last year, a group of 41 most developed countries. All three rating agencies have recently reacted to economic progress by putting Croatia at the same level as Poland, Portugal and Spain. Borrowing costs for Croatia were already anticipating a shift last year, so they were practically equal to the borrowing costs of these countries.

Such positive assessments of the Croatian economy in the domestic media space often strike into impenetrable barriers beyond which other laws seem to apply. Favourable indicators of the economic situation are in the public regularly faced with the question – when will these indicators finally affect the living standards of citizens? This always implies that the standard of living of citizens is deteriorating or at best stagnating. The available figures show the opposite - they clearly show an improvement in standards. Real wages are currently rising at double-digit rates, which have not been recorded since the second half of the 1990s. This increase not only compensated for the short-term decline in the purchasing power of wages caused by elevated inflation, but also brought them even above the level at which real wages would have been had they followed the pre-pandemic upward trend of around 3.5 percent per year in recent years. Due to the increase in the minimum wage, wages at the lower end of the distribution, i.e. those of the lowest earners, rose the most. A marked improvement in standards is also shown by various other statistics. Private consumption is increasing strongly and is the main driver of economic growth. Consumer optimism pushed the growth of cash loans above the rate of 15%, which is by far the strongest increase since the period immediately before the global financial crisis. At a similar rate, 14%, the number of newly registered vehicles increased in the 12 months between October last year and September this year, surpassing 62,000. On the other hand, credit card indebtedness and current account overdrafts are decreasing. All statistics that measure income and consumption consistently point to a strong increase in real household income, consumer optimism and personal consumption. In parallel, savings are also gradually recovering from the low level to which they fell at the peak of inflation.

What is the source of this discrepancy between numbers and impressions? We can speculate on two groups of causes, although working hypotheses should certainly be investigated in more detail. The first group of causes is somehow universal and related to elevated inflation. The perceptions of erosion of living standards in this episode of elevated inflation are widespread in developed countries too. This perception is also present in countries where real incomes have grown, as is the case in Croatia. Workers seem to see nominal wage growth as a reward for their efforts, and inflation as an unfair hijacking of hard-earned raises. In reality, however, most of the increase in nominal wages is merely a compensation for elevated inflation. The gap between the actual movement of inflation and incomes and their perception is a well-known and documented phenomenon, but no one has yet thought about how to accelerate the adjustment of citizens to a permanently higher price level, that is, to bring the perception of changes in real incomes closer to their actual increase. The second group of causes is probably more related to Croatia. Before the domestic economy transformed from an "ugly duckling" to a swan in the past few years, it had been stuck in a "middle-income trap" for a long time. Absolute wage levels have remained relatively low, reflecting this protracted lag. For example, a married couple with one working parent on the average salary and two children earned just under 15 thousand euros in Croatia last year, which is about 44 percent of the income of an identical family at the EU average level. Only three EU member states recorded lower wage levels. The lower price level in Croatia compared to the EU average somewhat reduces the difference in the purchasing power of the average wage, but it is also emphasized if one takes into account the higher purchasing power of the euro in Croatia. The prolonged, literally decades-long stagnation of income, which would decrease again after each ascending phase, led to disappointment and frustration with deep-rooted distrust in economic policy makers, and indirectly perhaps in the economic indicators themselves.

A few years of upswing does not mean maintaining a growth trajectory where our economy will reach the economies of the most developed countries. But there are good reasons why this growth cycle might differ from previous ones. This time, growth is based on sound economic fundamentals. In addition to good economic policies, in recent years a unique combination of favourable circumstances has significantly helped. Tourism recovered the fastest in the Mediterranean, despite a much stronger increase in prices for tourists compared to competing countries. Also, inflows from European funds peaked, and although they should not decrease significantly in the coming years, it is quite certain that they will not increase. Finally, such good results were helped by the introduction of the euro, as well as entry into the Schengen area. The result of all these lines was a strong wind in the sails that will hardly happen again. But the benefits of joining the eurozone and Schengen are enduring and will not disappear, and skill in economic governance could replace some of the growth forces that will gradually lose strength and help to face the challenges, often unpredictable, that await us. As a first step towards better economic governance, it would help to start agreeing on a diagnosis of the situation and the problems. In short, it would help to call ducks – ducks.

The column is available on the Nacional website.