Statement at the Conclusion of an IMF Staff Visit to Romania
“Romania improved considerably its macroeconomic fundamentals in recent years, supported by three successive IMF, European Union and World Bank arrangements. It is critical now to safeguard these achievements as downside risks in the global economy, particularly for emerging economies, have heightened again. Key policy priorities include preserving fiscal discipline to solidify public finances as well as renewing the momentum for structural reforms—especially as regards to state-owned enterprises—to sustain confidence and improve the long-term growth potential.
“The near-term growth outlook is strong but risks are tilted to the downside. The economy is growing at a healthy clip with real GDP projected to advance by 3.4 percent in 2015, reflecting broad-based contributions from consumption, investment, and exports. Pro-cyclical fiscal loosening in 2016 aiming to spur domestic demand further is expected to contribute to an acceleration of economic activity to about 3.9 percent next year; however, it will also reverse recent progress on stabilizing public debt. This comes at a time when renewed volatility in global financial markets, including downside risks to trade and capital flows, could put strains on the Romanian economy.
“After several years of fiscal consolidation, the fiscal deficit is set to rise significantly on the back of sizable tax cuts and wage increases. For the current year, the budget is on track to meet the 1.9 percent of GDP deficit target owing to good revenue performance and underexecution of the capital budget, and there is room to bring forward some one-off liabilities from 2016. For 2016 and 2017, the adopted and intended policies—a combination of large tax cuts and rapid public wage increases—will push the fiscal deficit close to 3 percent of GDP in 2016 and above this threshold in 2017 unless offsetting measures are identified or capital spending is again not fully carried out. This procyclical stance will add stimulus to the economy at a time that it is not needed given the strong expansion of activity and will put public debt on a rising path. The fiscal plans compare with a recommended deficit target of about 1.5 percent of GDP for next year, which would be consistent with lowering the public debt-to-GDP ratio and, as cyclically neutral, would accommodate current growth prospects.
“Accelerating fiscal structural reforms is expedient to strengthen public finances and improve the quality of the budget. Raising revenue collection and reducing inefficient spending can create fiscal space that would allow lowering tax rates, though at a more measured pace. In particular, while tax collection has markedly improved this year, the tax collection gap remains significant. Going forward, the reform priority should focus on putting in place a modern compliance risk management approach that would move the tax administration agency’s “Accelerating> limited resources away from value added tax (VAT) refund audits to higher yielding activities. Without such a shift, the envisaged additional restructuring plans of ANAF may not bear the envisaged results. In addition, the planned new natural resource taxation regime should carefully balance between fostering investment and ensuring an appropriate revenue take for the state. On the spending side, key measures to improve efficiency include: (i) starting pilot spending reviews to identify room for efficiency gains, (ii) enforcing and enhancing the investment prioritization list to improve investment quality, and (iii) completing the rollout of the commitment-control system to improve expenditure management.
“Monetary policy faces new challenges. Average annual headline inflation is expected to stay negative through mid-2016, reflecting largely the VAT rate cut on food in June and the general VAT rate cut from January 2016 as well as lower commodity prices. Despite this, there is no immediate case for further monetary easing given the expansionary fiscal stance in 2016, the rapid growth in wages, broadly anchored inflation expectations, and lingering uncertainty in global financial markets. Continued low imported inflation could complicate future policy decisions, however.
“The banking sector is a step closer to rejuvenate intermediation. The banking sector weathered well the bouts of uncertainty surrounding Greece during the summer and continues to maintain adequate capital and liquidity buffers. As balance sheets have strengthened further and the economic recovery has become more entrenched, credit to the private sector has shown signs of an incipient turnaround. At the same time, maintaining strong buffers will be critical for banks to deal with significant legal risks. Expediting the much delayed adoption of key financial sector legislation—including bank resolution, deposit insurance, macroprudential oversight, and covered bonds—will help to further strengthen the current framework in line with international good practices. As regards the modernization of Romania’s insolvency regime, the process is advancing, and the mission advised to strengthen the draft secondary legislation in support of an effective implementation of the personal insolvency framework.
“Lack of progress in structural reforms is a key obstacle to long-term growth prospects. Romania’s strongest pillar of structural reforms have been continuous improvements in energy pricing, accompanied by ongoing efforts to strengthen the support system for the most vulnerable. However, actions to sustainably raise the performance of many inefficient state-owned enterprises (SOEs) in the transportation and energy sectors have stalled, in part because the concept for better SOE corporate governance still has to be fully embraced. The new draft legislation on corporate governance, if comprehensively implemented, would be an opportunity to rebuild credibility in this area. At the same time, the authorities should give new impetus to private sector involvement in SOEs, through initial public offerings or strategic privatizations. Without modernizing Romania’s public infrastructure, the benefits of the current strong economic activity could be short-lived and progress on economic convergence would be slow.”
The IMF mission team would like to thank the Romanian authorities and other counterparts for their warm hospitality and the open and constructive discussions.