IMF Survey: Romania: Delayed Recovery Now Expected
May 11, 2010
- Return to growth has been delayed but strong recovery still expected in 2011
- New austerity measures reflect government's response to recent turmoil
- Banks remain well capitalized, highly liquid
Romania’s economy is not yet out of the woods and recent turmoil in the European financial markets has heightened risks.
The IMF expects a modest decline in real growth for 2010 as a whole, with a strong recovery on the cards for 2011.
Prior to the crisis, foreign capital had fueled consumer spending and led to an investment boom. The global credit crunch cut off funding and the exchange rate weakened by more than 15 percent against the euro. When the crisis hit, Romania’s government turned to the international community for assistance, and received a €12.9 billion loan from the IMF in March 2009, as part of a coordinated financial support package of €20 billion. Since then, reserves have grown, Romania’s country risk premium has declined, and domestic interest rates are falling steadily. Long-term borrowing costs have also declined under the IMF-supported program. But fiscal challenges remain, and the country’s long-term growth potential has been damaged by the crisis.
In this interview, the IMF’s mission chief for Romania, Jeffrey Franks, discusses the impact of Greece’s debt crisis on Romania’s economy and its banking sector, the new austerity measures announced by the government, and needed steps to improve competitiveness.
IMF Survey: Has Romania been impacted by the debt crisis in Greece and the ensuing turmoil in financial markets?
Franks: We don’t see strong direct effects now in Romania, but of course this heightens risks. The government is going to have to be more vigilant in how it implements policies going forward, to avoid any effects from what is going on elsewhere in Europe.
Certainly, the fact the European economy is recovering less quickly than some other regions is affecting Romania. The economy’s return to positive growth is delayed and somewhat weaker than we had originally anticipated. As a consequence, we have revised our economic forecast down from 0.8 percent of GDP to -0.5 percent for 2010. But growth will rebound in 2011.
IMF Survey: The government has just announced new austerity measures, including a 25 percent cut in public sector wages. Was that really necessary?
Franks: Well, the government found itself in a difficult situation because the revised forecast for the deficit for 2010 with no action would have put the deficit at about 9 percent of GDP. So serious action was required. There were a number of possibilities that policymakers could have chosen―different mixes of revenue and expenditure measures―but their decision was to rely almost entirely on public expenditure cuts.
IMF Survey: What was the IMF’s recommendation?
Franks: We had looked at a number of different options, and most of our proposals were more balanced between revenues and expenditures. We discussed a number of different scenarios with policymakers during our mission, which just wrapped up. The government―the president, the prime minister, and the minister of finance supported by the entire cabinet―made the decision to go ahead with this particular approach.
IMF Survey: Are there still measures in the program that are aimed at protecting the more socially vulnerable groups in Romania?
Franks: Yes, such measures are part of the IMF-supported program. Given that the authorities wanted to rely on heavy expenditure cuts in adjusting their budget, we asked that they put in place some protection for the most vulnerable. In particular, working with the World Bank, they want to make sure that although there are going to be cuts in social transfers of 15 percent, those cuts will be proportionately larger on inefficient and poorly focused programs, and there would be no cuts on the best-focused of the social assistance packages.
The program the World Bank would like to protect, and the government has agreed to, is called the “guaranteed minimum income scheme” which provides a floor on the income of the least fortunate.
IMF Survey: How exposed is the Romanian banking system to the crisis in Greece?
Franks: The banking system has been affected by the very sharp recession in Romania, as would be expected. However, the banks remain well capitalized and highly liquid. The average capitalization of Romanian banks is currently 14 percent, significantly above the statutory minimum of 8 percent, so the banks have a cushion of capital that they can rely upon to take them through the recession.
There are several Greek banks that operate subsidiaries in Romania. But again, those banks are well capitalized, tightly supervised, and we do not see any significant negative effects at this stage in those banks.
IMF Survey: What is the outlook for unemployment?
Franks: Unemployment has risen significantly and stands at about 8 percent right now. But that still leaves Romania with an unemployment rate that is significantly below the EU average. So while there has been an increase in unemployment, Romania has been relatively less affected than some other countries. We believe that there will be a further increase in the number of unemployed during 2010 before unemployment begins to turn around in the fall. That’s because the recovery will only happen during the second part of the year.
IMF Survey: Is competitiveness being restored?
Franks: Romania suffered a significant depreciation of its currency going into the crisis. This downward pressure on the currency reflected some negative effects of the crisis, of course, but it had the positive effect of making Romanian exports more competitive. The bottom line is a gain of about 15 percent in competitiveness as a result of the more depreciated currency.
What is key going forward, now that the currency is stabilized and the financial markets in Romania have stabilized, is for the government to undertake structural reforms to make their economy more efficient, more flexible, and more productive, which would give them additional competitiveness going forward.
There are some reforms in the program which would help in the competitiveness area―for instance, measures that will make it easier to invest structural funds from the European Union. The authorities have also decided to reactivate their privatization program and are looking at measures to increase the efficiency of the public sector. Those policies will help to make the economy more productive so that, once the European recovery takes firm hold, Romania will be well placed to make the most of it.