Croatia is a partner country under the Vienna Initiative NPL framework.
As of June 2016, non-performing loans (“NPLs”) amounted to €5.3 billion, for a NPL ratio of 14.8% and a NPL coverage ratio of 65.7%. Corporates (excluding government) made up 66% of the NPL stock while household NPLs were 32% of the gross NPLs.
A new bankruptcy law was adopted in June 2015 aimed at shortening the bankruptcy procedures and strengthening creditors’ control over the process. The government also introduced personal bankruptcy for citizens and entrepreneurs who are unable to meet liabilities for three consecutive months, and a one-off tax incentive is in place in 2017 to help banks clean up their balance sheets.
The World Bank and the EBRD are closely involved in supporting the authorities under the Vienna Initiative framework, seeking to identify and support overcoming obstacles in the prudential, accounting, tax, and legal framework. A first workshop on out-of-court restructuring took place in November 2016 and sought to encourage banks to increase collaboration towards NPL resolution..
Assessment of NPL Burden and Corporate Debt Distress
National Bank of Croatia, Financial Stability Report, July 2016
While credit growth was absent in 2015, the banks’ credit portfolio improved slightly thanks to the intensified process of cleaning banks’ balance sheets as well as, in part, the economic growth associated with the recovery of some NPLs. In 2015, Banks improved their balance sheets through NPL sales which accounted for 6% of the total NPL amount at end-2014, with more than 80% of NPLs being sold to enterprises specialising in collecting and managing claims. Most of the claims sold relate to corporate loans, with the NPL ratio in that sector reducing by 2.3 percentage points over 1 year. At the same time, the level of provisions has remained stable, and with a reduce NPLs volume, the NPL coverage ratio has gradually improved, at around 60% as of March 2016.
IMF, Republic of Croatia, Country Report No. 16/187, 2016 Article IV Consultation – Press Release, Staff Report and Statement by the executive director for the Republic of Croatia
The stability of the banking sector has been maintained despite the drawn-out recession. The NPL ratio seems to have stabilized, but remains high (16.3% as of December 2015). Nonetheless, NPLs are fairly provisioned. In 2015, one small, but regionally important, bank began the resolution process in accordance with the EU Bank Recovery and Resolution Directive. The IMF staff encourages the Croatian National Bank (CNB) to continue its conservative prudential policies and supervisory vigilance. The staff also notes that Croatia’s National Reform Program includes measures to facilitate resolving the debt-overhang of many corporations, and welcomes the new Consumer Bankruptcy Act as well as the incorporation of the Pre-Bankruptcy Settlement Law into the bankruptcy legislation. However, it is too early to tell if these changes will reduce the costs and uncertainty about future debt recoveries.
World Bank Group, Croatia Macro Monitoring Report, September 2016
NPLs continued to decline in 2016, dropping from 16.6% in December 2015 to 15% in June, mainly because of continued sale of NPLs to factoring companies, and their write-offs. The largest impact came from a reduction in corporate NPLs, followed by loans to households. Credit stagnation and NPLs will continue to weigh on the profitability of banks, as will the costs of conversion of CHF-pegged loans to euros.
European Commission, Commission Country Report Croatia 2017
In the context of two parliamentary elections in less than one year, Croatia undertook limited policy action in 2016 and has made limited progress in addressing the 2016 recommendations. With respect to NPLs, some progress has been made to facilitate the resolution of NPLs, in particular through the 2017 tax reform which includes provisions on tax deductibility for writing off non-performing loans, which is expected to help banks improve their asset quality.
The NPL ratio remains relatively high, but has fallen below 15% in mid-2016 since its mid-2015 peak. Furthermore, NPLs are well provisioned, thanks in part to the progressive and automatic provisioning requirements introduced by the central bank in 2013. Preliminary analysis suggests that NPLs sales have driven the decrease in the NPL ratio, both because parent banks have more actively reduced their portfolios of such loans while buyers have recognised the potential of the Croatian market. However, it is difficult at this stage to monitor the impact of the revised insolvency regulation on the process of resolving non-performing loans.
Overall, the financial sector, which is well-capitalised and is recording improving quality of banks’ assets, is expected to support the recovery with increased net credit flows. The banking sector, nevertheless, remains exposed to indirect credit risks through the large foreign currency exposure of its corporate and household clients. The central bank’s tight management of the exchange rate significantly reduces these risks, while the conversion of Swiss franc loans into euros hit the profitability of the banking sector, and may have damaged legal certainty.
EBRD, Country Assessment: Croatia, Transition Report 2016
Supporting the resolution of NPLs and corporate restructuring should be high on the agenda in order to revive productivity and long-term growth. NPL levels (especially for corporates) are high when compared regionally and NPL resolution is progressing slowly, limiting the range of creditworthy borrowers and constraining bank resources for new lending.
The banking sector has solid capital buffers but high corporate NPLs are hindering growth. The banking system’s capital buffers are strong (the capital adequacy ratio stood at 21.8 per cent in June 2016) but the high level of NPLs (15.0 per cent as of June 2016) and weak economic prospects have kept credit growth negative since mid-2012. Over the past two years, the central bank has introduced certain measures to address the problem, including changes in provisioning, compulsory minimum haircuts and collection periods for real estate and movable property. These measures have contributed to lowering NPLs, but NPL resolution would require a holistic approach focusing on all factors that impede resolution including tax regulations, efficiency of pre-insolvency and insolvency frameworks and other factors affecting the transferability of NPLs.
European Investment Bank, CESEE Bank Lending Survey, H2 2016
Both credit demand and credit supply have recently increased (although supply has been lagging behind demand), surpassing the CESEE average, with significant improvement in access to funding. Demand is driven by both households (consumption as well as house purchases) and corporates (thanks in part to NPLs reduction). Croatia has experienced one of the sharpest declines in NPLs in the region during the last six months, in both the retail and (even more so) corporate sectors. This process is expected to continue at a slightly lower, but solid pace in the next semester. The continued progress on NPLs reduction will feed positively to banks’ profitability and their ability to ease credit standards going forward, thereby increasing credit supply over the next six months.
National reforms and support by the international organisations
Highlights of significant measures implemented recently
Guidelines on out-of-court restructuring: In October 2015, the Ministry of Justice (MoJ) introduced non-binding “Guidelines on Corporate Debt Restructuring by Means of Out-of-Court Agreement” which aim at the timely resolution of insolvency-related disputes. In November 2016, EBRD organized a workshop in Zagreb with MoJ and bank representatives to foster exchange and discussion about the new guidelines, develop further cooperation between banks and public authorities and encourage banks to adopt a more cooperative and coordinated approach to multi-creditor cases.
New Bankruptcy Act: Adopted in June 2015 to shorten the bankruptcy procedures and strengthen creditors’ control over the process. It speeds up the transition from the pre-bankruptcy procedure to the bankruptcy procedure, which are now both under court supervision. Since 2015, the Pre-Bankruptcy Settlement Procedure (PBSP) has also been included in this Act.
Consumer Bankruptcy Act: The Act was introduced in January 2016 and represents the legal concept of consumer bankruptcy in the legal system for the first time. It aims to benefit creditors from increased collection of their claims, while consumers can be released from those obligations that remain after their assets have been sold and the proceeds obtained, subject to protections for the debtor’s primary residence.
New tax reform, including a one-off tax incentive for NPL resolution: Adopted by Parliament in late 2016 and entered into force in January 2017, the tax reform includes changes to a set of several tax regulations. Among others, and in an effort to help banks reduce their NPLs, a one-off measure, valid for 2017 only, allows banks to treat provisions related to NPLs as tax-deductible expenses.
Implementation of 2010 ESA definitions for monetary statistics: Implemented in January 2015 with a view to reclassifying data series back to January 2011, which included gross loan claims of banks. The methodology was also improved in early 2016 to better take into account write-offs for banks.
EBRD workshop in Zagreb on corporate out-of-court restructuring of NPLs, November 2016
On 22 November 2016, the European Bank for Reconstruction (EBRD) hosted a workshop in Zagreb under the Vienna Initiative on out-of-court restructuring. The workshop aimed to identify ways of strengthening the cooperation of banks with regard to non-performing loans (NPLs). The event was an occasion for the Croatian Ministry of Justice to present its non-binding “Guidelines on Corporate Debt Restructuring by Means of Out-of-Court Agreement” introduced in October 2015. On that basis, participants discussed the Guidelines and offered solutions which encourage banks to adopt a more cooperative and coordinated approach to multi-creditor (not just bilateral) cases.