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(Bloomberg) -- Croatia’s effort to cap the exchange rate for Swiss-franc loans for 12 months to protect borrowers during an election year may further sink an economy mired in six years of recession, industry analysts in Zagreb said.

Lawmakers probably will meet later this week to vote on a proposal to fix the exchange rate at 6.39 kuna per Swiss franc, the rate before the Swiss National Bank scrapped its cap last week. It would then allow costs to be passed on to banks.

Following Hungary’s moves in the past three years to protect borrowers from a surging Swiss franc with a series of measures, other eastern European nations are assessing the fallout of the Swiss central bank’s decision to lift its currency cap on Jan. 15. The Croatian kuna slumped, affecting 60,000 households holding a combined 21.8 billion kuna ($3.2 billion) of Swiss-franc mortgages. Prime Minister Zoran Milanovic called measures a “political decision” that would help families stay out of bankruptcy.

“This is a populist move that gives the prime minister some breathing space in the election year,” Vedrana Pribicevic, an analyst and lecturer at the Zagreb School of Economics and Management. “It may also destabilize the banking system, lower the credit potential of banks and damage Croatia’s appeal to investors.”

The Croatian kuna, which fell to a record-low of 7.88 per Swiss franc after the decision, was trading at 7.62 per franc at 2:03 p.m. in Zagreb.

Ministry Talks

The Croatian Banking Association said the proposed exchange-rate fixing is not in accordance with agreements the industry group made with the Finance Ministry on Monday.

The law would be a dangerous precedent, creating legal uncertainty among investors and borrowers in a country that already has the second-highest risk premium in the European Union, after Greece, said Zeljko Lovrincevic, a lecturer at the Zagreb Institute of Economics.

“The move favors a group of consumers over others and could push society into a social conflict over how the debt should be repaid,” said Lovrincevic.

Gross domestic product shrank 12 percent in the past six years, doubling unemployment to 19.2 percent as of November. With a general election scheduled to be held no later than in December, the opposition has been pushing for the ballot to be brought forward, especially as their presidential candidate won an upset victory in elections for the head of state this month.

Total Swiss-franc loans in Croatia were at 23.7 billion kuna at the end of September, down from 32.6 billion kuna in 2011, as the government took measures to discourage lending in that currency as some were paid off.

Legal Protection

The banks may ask for legal protection, Zoran Bohacek, head of the Croatian Banking Association, told N1 TV late on Monday.

Banks proposed bearing the extra costs of loan holders for a three-month period and converting mortgages to euro- or kuna- linked loans as a long-term solution.

Conversion costs should be shared by all participants, with social status of debtors taken into consideration, the association said.

The 24,000 member association of Swiss-franc loan holders was also dissatisfied with the government proposals. The organization will organize protests if demands, including an immediate loan conversion to kuna with an interest rate at the time of the loan’s inception, are not met.

In Serbia, the banking association will meet on Jan. 23 to discuss a possible coordinated solution that banks might offer to the government, association Chairman Goran Pitic said on Jan. 20.

Euro Indexing

Solutions include conversion of Swiss-franc loans to euro indexed loans, said Slavko Caric, the chief executive of Erste Banka AD in Serbia, on Jan. 19. Banks could also help by transferring currency conversion costs to the end of the loan repayment period, or alternatively, reduce interest rates on new euro-indexed loans, Caric said.

An association of bank clients has called on the central bank and banks to fix the dinar rate against the franc at 102, compared with its new value of around 120.

--With assistance from Gordana Filipovic in Belgrade.

To contact the reporter on this story: Jasmina Kuzmanovic in Zagreb at jkuzmanovic@bloomberg.net To contact the editors responsible for this story: James M. Gomez at jagomez@bloomberg.net Peter Laca

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