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Forbes Croatia
The Flat Tax: Regional Competition for Capital and Jobs Intensifies
Why is Croatia still out of the competition?

Print Edition, April 2011

By Dr. Alvin Rabushka, senior fellow, Hoover Institution at Stanford University, Palo Alto, California and founding leadership board member, Adriatic Institute for Public Policy; and, Natasha Srdoc and Joel Anand Samy, co-founders of Adriatic Institute for Public Policy, Rijeka, Croatia.

Sound reasons not to invest in Croatia yet 
July 7, 2010
By Joseph Molitorisz, Ph.D., Senior Fellow, Ethics and Culture, Adriatic Institute for Public Policy and Robert Moraal, Senior Fellow, Economics and Investments, Adriatic Institute for Public Policy
Croatia is widely heralded as a success story among transition countries in south eastern Europe. It certainly has the potential for being a successful and stabilizing force in the region. But it is arguably not one yet.  Even the most cursory look at objective data and reliable sources demonstrates where Croatia actually stands.
Perusing through Transparency International's Corruption Perception IndexThe Wall Street Journal and Heritage Foundation’s The Index of Economic Freedom, Global Property Guide's Property Rights Index, and recent World Bank, EU annual report and U.S. State Department country reports underscores what needs to be said about conditions in Croatia.
Rational investors will think twice before investing in the country, although there are many investors who “fall in love” with the country not necessarily looking at the poor risk and return profile of these investments. Most “major players”, which could offer important production facilities and jobs, ignore Croatia with sound reasoning.  
The Wall Street Journal and The Heritage Foundation’s 2010 Index of Economic Freedom puts Croatia at the bottom of Europe. The overall World Bank’s Doing Business ranking is a dismal #103. Property rights are a big issue. According to the Property Rights Index of the Global Property Guide, Croatia is toward the bottom of the list of European countries with only Belarus and Bosnia and Herzegovina scoring lower. This evaluation reflects the fact that Croatia is stuck in a morass of ownership issues which have yet to be untangled with an enormous backlog of unresolved property claims. The system put in place to resolve them is arcane. Property issues typically drag on for years without proper resolution. Many courts and pertinent offices charged with sorting things out are inadequately prepared for the task at hand.
Small claims, large claims, petty claims are all lumped together by office bureaucrats who are not always interested in speedy resolution of contested property claims. The process is unruly and non-transparent in many cases. According to the 2009 U.S. State Department country report on Croatia “corruption cases involved nearly all segments of the society”. The EU annual “Progress Report” for Croatia repeatedly warns about the dismal state of the rule of law and the 2009 report once again cautions, “The potential for undue political influence over the judiciary remains.” 
This assessment corresponds to the day to day reality of dealing with office bureaucracy. Corruption is present in small and large offices. The EU report further states, “While the total number of corruption cases investigated so far has increased, the actual number of prosecutions remains low. There has been limited investigation of high-level corruption, the prosecution of which is frustrated by political influence. A culture of political accountability for the corruption being uncovered by USKOK is lacking.” The office bureaucrats are typically there not to serve the client, but the other way around. Regrettably, stalemate, confusion and arbitrariness in the enforcement of regulations and laws continues to prevail in Croatia.
The next related, unresolved issues are corruption, nepotism and lack of accountability.  According to Transparency International's Corruption Perception Index, Croatia ranks # 66, tied with Kuwait and Georgia and falling behind Saudi Arabia and Tunisia! This is instructive. The typical refrain from the official line is that every country has corruption. Such utterances are un-instructive. Absent a system of accountability accompanied with standards and performance measurements, oftentimes one encounters a free-for-all. There are deeply-engrained practices and attitudes that account for this deficit. All too often, what counts is not what you know but whom you know. In many instances, nepotism permeates the responsible offices. This goes unchecked and often unquestioned. Decision making is slow and arbitrariness seems to be the common denominator. Rules and regulations are relegated to secondary status.
There are good reasons why the Property Rights Index has Croatia languishing toward the bottom of Europe. A plethora of unresolved property rights issues, some pending for more than a decade lay dormant in an inefficient court system. In one worst case scenario, a judge colliding with local owners to fully inherit the attractive properties on the island of Brac deliberately excluded the legal co-inheritors that emigrated. Particular sectors of the economy are marked by unevenness. Real estate including The building and construction sector is certainly one of these uneven sectors. Bidding is a very significant issue, because often non- or semi-competitive bidding practices result in pre-arranged outcomes. Nearly everything having to do with building and sale of properties is affected, and this requires due diligence on the part of the prospective buyer. Property rights are far from being a given under the lax rules and sloppy circumstances in effect today.   
Intellectual property, information and transparency seem to be a given in the age of the Internet.  We feel that we have all the information we need at our fingertips. In Croatia this generally accepted reality is very slow in coming. Information is typically incomplete, inaccurate or simply non-existent. The 2009 EU Progress Report states, “Intellectual property crime is of growing concern for the health and safety of consumers and on account of the increasing involvement of organised crime”.
 
On the upside, a plethora of scandals involving “crony capitalism” are coming to light, questionable ethics of politicians are being exposed  and the public is getting a sense of what might be an easing of press restrictions into the future because of the desire on the part of officials to facilitate Croatia's entry into the E.U. It is unknown to what extent Croatia's politicians would be embarking on “reforms” in the absence of external pressures. They know that the image of Croatia is at stake. All along they have been touting Croatia as already being “part of Europe”. Well, now these politicians have to prove it.
  
Croatia is still on the other side of the Schengen border. Choice in consumer products is on the rise. Mass consumerism, including the proliferation of credit cards and huge personal debt are typical for this region, not only for Croatia. However, according to the IMF, Croatia still lags behind other eastern European countries on business environment indicators. The absence of structural reforms and continued government involvement in the economy lead to a crowding out effect of private borrowers in the domestic financial market. The World Bank states that Croatia is experiencing “high foreign debt and inefficient public spending”.
Beyond this kind of influx there is an absence of an influx of intellectual capital into the country. Croatia is experiencing the net effects of brain drain. Croatia cannot afford to further lose its best and brightest to the West  due to conditions which are not conducive to staying for many skilled young people. Besides financial incentives, there have to be ethical incentives to stay.  Croatians who already live and work abroad but who would like to return and assist in their homeland's potential growth are often discouraged from doing so because working in the West has taught them the value of a “merit system” whereby they can assess and gauge the value of their work according to standards and rewards. In Croatia, such a system is only present in a rudimentary form. These professionals are unlikely to return until they see verifiable changes for the better, along with rising salaries and rising standards.
The wise investor must take the issues cited above into serious consideration before making a determination that it is sound business practice to invest in Croatia.
The is the first contribution in a series of insightful op-ed pieces focusing on Croatia's economic outlook and investment climate.
By Joseph Molitorisz, Ph.D., Senior Fellow, Ethics and Culture, Adriatic Institute for Public Policy and Robert Moraal, Senior Fellow, Economics and Investments, Adriatic Institute for Public Policy

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