In its autumn forecast published on Tuesday, the EC forecasts the country's GDP to decline by 0.7% this year, expecting it to increase mildly by 0.2% in 2015, as against the previous estimate of 0.7%. In 2016, the EC expects Croatia's GDP to grow by 1.1%.
The EC autumn forecast has been finalised before the Croatian government has adopted a draft revised budget for this year and a draft budget for 2015, so the forecast does not include the proposed changes to income tax or the introduction of taxes on interest earnings from savings deposits, expected to take effect as of 2015.
"After six years in recession, Croatia is expected to have only marginally positive growth in 2015, thanks to a positive contribution of external demand, while a rebound in investment should spur growth in 2016," the EC says.
The general government deficit is forecast to stand at 5.6% of GDP in 2014 (compared to 5.2% of GDP in 2013). The budget deficit is set to narrow marginally to 5.5% of GDP in 2015 and remain around the same level in 2016, the EC says.
It notes that the reason for this is low VAT revenue collection, partly explained by the weak dynamics of the tax base. Expenditure appears to be evolving mostly in line with the authorities' plans, but additional outlays from flood-related reconstruction costs are materialising in the second half of 2014, says the EC.
Since the beginning of this year Croatia has been in the Excessive Deficit Procedure (EDP) within which it is expected to bring its deficit down to 4.6% of GDP in 2014, to 3.5% in 2015 and 2.7% in 2016.
The EC warns of negative fiscal risks, including from the accumulation of arrears in the health sector and possible additional expenditure slippages in some other sectors, such as education or transport.
Risks to growth projections are tilted to the downside due to domestic policy uncertainty, notably related to the fiscal consolidation process and delays in the ongoing structural reform process, says the EC.
The general government debt is expected to reach 81.7% of GDP in 2014, and 84.9% and 89.0% of GDP in 2015 and 2016.
Croatia's debt was 75.7% of GDP at the end of 2013 and its increase has been strongly affected by the inclusion under the new accounting rules of two major state-owned enterprises, which have increased the debt-to-GDP ratio.
The unemployment rate is expected to increase mildly from 17.3% in 2013 to 17.7% and is set to stagnate at 17.7% in 2015. It is expected to decline slightly to 17.3% in 2016.
The EC notes that the forecast is unfavourable due to large accumulated external and internal imbalances in a context of weak business environment and labour market performance. External demand is expected to make a positive contribution, on account of a strong rebound in export of goods and to a lesser extent services.
HICP (Harmonised Indices of Consumer Prices) inflation is forecast to drop to 0.2% in 2014 from 2.3% in 2013. In 2015, it is expected to rise to 0.6% and in 2016 to 1.1%.
Exports are forecast to grow 5.4% this year, after last year's growth of 3%, and in 2015 they are expected to slow down to 3.6% and to pick up to 4.8% in 2016.
Imports this year are forecast to grow by 3.4%, in 2015 they are expected to increase by 2.6% and in 2016 by 4.5%, the EC says.
Of all the EU member-countries, Croatia has the poorest outlook while Ireland has the best, with this year's growth projected at 4.6%.
The average GDP in the EU28 is expected to grow by 1.3% and in the euro area it is expected to go up 0.8%. In 2015, the EU is expected to see GDP growth of 1.5%, while the euro area is forecast to have GDP growth of 1.1%. In 2016, GDP growth is expected to pick up - to 2% in the EU28 and to 1.7% in the euro area.