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Public Information Notice (PIN) No. 04/75
July 27, 2004
International Monetary Fund
700 19th Street, NW
Washington, D.C. 20431 USA

IMF Concludes 2004 Article IV Consultation with Romania

Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case. The staff report (use the free Adobe Acrobat Reader to view this pdf file) for the 2004 Article IV consultation with Romania is also available.

On July 7, 2004, the Executive Board of the International Monetary Fund (IMF) concluded the 2004 Article IV Consultation with Romania.1

Background

After uneven performance in the 1990s, macroeconomic policies improved in 2001-03. Macroeconomic imbalances were reduced through fiscal policy, measures to improve the financial performance of state-owned enterprises (SOEs), and accelerated privatization. The National Bank of Romania (NBR) slowed the depreciation of the leu and achieved substantial disinflation, lowering the annual inflation rate from 40 percent in early 2001 to 12.3 percent in May 2004. Macroeconomic stabilization, which preserved the competitiveness achieved with the 1999 depreciation, and prospects for EU accession created a positive supply response and facilitated rapid growth over the last three years.

However, in 2003 domestic demand picked up and the current account deficit widened, reflecting a sharp increase in credit to the private sector and a large minimum wage increase in January 2003. As a result, final domestic demand grew faster than output and the current account deficit widened to 5.9 percent of GDP.

Fiscal policy provided continued support for macroeconomic stabilization. Far-reaching value-added tax (VAT) and profit tax reforms and improvements in tax administration strengthened revenue collections despite sizable cuts in social security contribution rates. With interest payments declining, the budget deficit was reduced relative to GDP from 2.6 percent in 2002 to 2.3 percent in 2003. The authorities were also successful in reducing losses from quasi-fiscal activities. After a delayed policy response to higher international prices in early 2003, gas prices have been increased substantially since mid-2003, and electricity prices were brought to the cost recovery level in September 2003. Collection rates in the gas and electricity sectors increased significantly, but progress has been insufficient in district heating.

After a decade of slow privatization, a large-scale employment reduction program facilitated an acceleration of the privatization program. Overall, 35 large companies with over 112,000 employees were privatized in 2001-03, half of which were privatized in the last year. Although energy sector privatization has been slow, a number of important privatization projects are now close to completion, the most important of which is the privatization of oil and gas producer Petrom, the largest company in the country.

Executive Board Assessment

Executive Directors commended the Romanian authorities for the prudent conduct of macroeconomic policies and progress with structural reforms. These achievements have contributed to a decline in inflation and to Romania's strong economic growth over the past three years.

Directors stressed that sustaining strong growth over the medium term will require further efforts to complete macroeconomic stabilization and accelerate structural reform. In particular, continued disinflation and containing the current account deficit within a safe range, in the context of the current exchange rate-based stabilization framework, will require further efforts to reduce the budget deficit over the medium term, eliminate losses and quasi-fiscal activities in state-owned enterprises, and implement a strict wage policy. In the structural area, Directors emphasized the importance of completing the privatization agenda and stepping up efforts to improve the business climate, especially governance. It will be particularly important to keep up the momentum on these policies in the run-up to the general elections in November 2004 and in their immediate aftermath.

Directors commended the authorities' plan to lower the general government deficit in the context of the amended 2004 budget, and to use any additional revenue for further deficit reduction. They stressed the importance of maintaining a sufficiently tight fiscal policy over the medium term. Directors encouraged improvements in the structure of revenue and expenditure to support further budget consolidation efforts. They welcomed the reduction in Romania's high social security contribution rates, and supported further cuts in these provided they are accompanied by a broadening of the tax base and improvements in tax administration. Directors cautioned against eroding the value added and profit tax bases through the granting of exemptions. They strongly supported efforts to reduce subsidies, and noted that expenditure will need to be carefully prioritized to make room for planned increases in infrastructure investment. It was suggested that the articulation of a medium-term expenditure framework could usefully support such efforts.

Directors generally considered that the current monetary policy framework, which features a gradually declining targeted depreciation rate as a nominal anchor, has been a key factor underlying the success in reducing inflation. Directors agreed that once inflation has been brought down to single-digit levels and wage discipline in state-owned companies strengthened, inflation targeting will become a viable framework for the medium term. Steps to strengthen the central bank's independence in line with Maastricht requirements, are welcome, and Directors encouraged the authorities to step up efforts to fulfill the institutional, operational, and analytical prerequisites for the introduction of inflation targeting in 2005. Directors noted that the banking system remains healthy, and that recent measures have been effective in containing the growth of household credit. Nevertheless, they recommended that the authorities remain vigilant and prepared to take additional measures should the brisk growth of credit resume.

Directors stressed the need for hard budget constraints on state-owned enterprises. They welcomed the measures directed at reducing tax arrears and the nonpayment of utility bills, particularly in the mining and railway sectors. Directors supported the closing of unviable operations, with appropriate provision for relocating and retraining employees, and the adjustment of prices to fully cover costs. They commended the authorities' decision to raise gas prices to import parity, and also encouraged them to implement the recently-approved strategy for the district heating sector.

Directors welcomed the authorities' commitment to prudent wage policies, considering that this will be critical for maintaining macroeconomic stability and reducing state-owned enterprise losses. While commending the moderate increase of the statutory minimum wage and the tight state-owned enterprise wage program in 2004, they urged the authorities to remain firm in the implementation of these policies. They also underscored the need to keep wage settlements in collective labor contracts in line with productivity growth, thereby protecting employment and competitiveness.

Directors stressed that preserving labor market flexibility will be key to keeping the economy on a fast growth path and completing the far-reaching restructuring process. Accordingly, they urged the authorities to review the provisions in the newly-approved Labor Code that have adversely affected flexibility and increased the burden on small and medium-sized enterprises.

Directors welcomed the authorities' plan to offer most of the state-owned companies outside the energy sector for sale by end-2004. They also stressed the importance of accelerating privatization in the energy sector. Directors encouraged the authorities to continue reducing employment in state-owned enterprises, as they considered this necessary for reducing losses and accelerating privatization.

Directors commended the authorities for the recent progress in improving the business climate, including judiciary reform and the implementation of measures to fight against corruption. To attract higher private investment, it will be crucial to sustain these institutional reforms, further strengthen the fight against corruption—in particular through further efforts to increase the independence and effectiveness of the judiciary—and improve transparency in privatization and public procurement.

It is expected that the next Article IV consultation with Romania will be held on the 24-month cycle, subject to the provisions in the decision on the consultation cycles approved by the Board on July 15, 2002.


Selected Economic Indicators


 

1999

2000

2001

2002

2003

2004
Proj.


Real economy (change in percent)1

           

Real GDP

-1.2

2.1

5.7

5.0

4.9

5.0

Final domestic demand

-2.9

2.1

6.9

3.5

7.3

6.0

CPI (end of period)

54.8

40.7

30.3

17.8

14.1

9.0

CPI (period average)

45.8

45.7

34.5

22.5

15.3

11.5

Unemployment rate (end of period; percent)

11.8

10.5

8.8

8.4

7.2

6.5

Gross national saving (percent of GDP)

11.9

15.6

17.0

20.1

18.7

19.6

Gross domestic investment (percent of GDP)

16.1

19.5

22.6

23.5

24.6

24.8

             

Public finance (general government, percent of GDP)

           

Overall balance

-3.6

-4.0

-3.2

-2.6

-2.3

-2.1

Primary balance

2.4

0.9

0.6

0.4

-0.2

0.0

Total public debt (in percent of GDP) 2

33.2

31.3

28.6

28.3

26.6

26.5

             

Money and credit (end of year, percent change)

           

Real domestic credit3

-7.6

9.9

27.9

33.1

55.4

21.4

Broad money

44.9

38.0

46.2

38.1

23.3

27.2

           

Interest rates (percent)

           

NBR interest rates (end of period)4

88.7

60.1

39.9

21.5

23.4

...

Treasury bill rate (end of period)

104.8

59.4

38.4

17.4

18.4

...

             

Balance of payments (percent of GDP)

           

Trade balance

-3.5

-4.6

-7.4

-5.7

-7.9

-7.0

Current account balance

-4.0

-3.7

-5.5

-3.4

-5.8

-5.2

External debt

25.6

28.7

30.7

34.3

34.6

33.2

Official reserves (end-year, US$ million)

2,472

3,466

5,090

6,975

7,994

9,664

Reserve cover (months of prospective imports)

2.1

2.5

3.2

3.5

3.3

4.2

             

Exchange rate

           

Lei per U.S. dollar (end of period)

18,250

25,926

31,597

33,500

33,013

...

NEER appreciation (+) (annual average in percent)

-39.8

-22.8

-22.3

-14.4

-11.1

...

REER appreciation (+) (CPI-based, annual average in percent

-15.0

9.3

1.5

2.6

0.4

...

REER appreciation (+) (CPI excl. admin prices, annual

average in percent

...

6.0

1.8

1.0

0.0

...

REER appreciation (+) (ULC-based, annual average in percent)

-21.8

-0.3

-0.9

-6.7

-5.6

...


Sources: Romanian authorities and IMF staff estimates.

1In 2002, national accounts data starting 1998 have been revised due to methodological change (adoption of ESA95 guidelines).

2Including domestic public debt and external public debt (public and publicly guaranteed).

3Credit to the nongovernment sector. Weighted average of real lei credit growth and U.S. dollar-measured foreign currency credit growth.

4NBR's deposit auction interest rate, compounded.


1 Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities.




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