## 1rouea2021001 - 2021. The new government is committed to balance continued pandemic-related support with the start of a medium-term fiscal consolidation trajectory that corrects pre-pandemic excesses, while implementing a range of structural reforms. ## Source details **Canonical URL:** [1rouea2021001 - 2021. The new government is committed to balance continued pandemic-related support with the start of a medium-term fiscal consolidation trajectory that corrects pre-pandemic excesses, while implementing a range of structural reforms.](https://www.imf.org/-/media/files/publications/cr/2021/english/1rouea2021001.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2021/english/1rouea2021001.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2021/english/1rouea2021001.pdf.json) --- ### Context and Recent Developments - Macroeconomic backdrop: - Real GDP contraction in 2020: -3.9 percent (EU average: -6.2 percent). - New center-right coalition government (PNL) budget envisages returning the deficit to 3 percent of GDP by 2024. - NGEU grants expected to bolster recovery and medium-term prospects. - Growth and demand: - Real GDP growth (q/q): 4.6 percent in Q4 2020; 2.8 percent in Q1 2021. - Gross fixed capital formation expanded in 2020 despite contraction. - Prices and inflation: - Headline inflation: 2.1 percent y/y by December 2020 (target band 1.5–3.5 percent). - Electricity prices surged 17 percent y/y in January–April 2021 after re-liberalization. - Early 2021 inflation rise driven by electricity re-liberalization, higher natural gas prices, and rebounding global commodity prices. - External sector: - Current account deficit: 5.2 percent of GDP in 2020 (2019: 4.9 percent). - Net services exports rose; higher EU fund inflows raised secondary income. - Portfolio investment was the main source of current account financing; FX reserves coverage remained more than adequate. - Fiscal and pandemic support: - Fiscal deficit in 2020: 9.7 percent of GDP (2019: 4.6 percent of GDP). - Fiscal package: 2.2 percent of GDP in direct spending and revenue measures; additional 1.7 percent of GDP in guarantees and other actions. - Support types: health care expenditures; temporary wage subsidies, leave and unemployment benefits, targeted hiring incentives; business liquidity support via tax deferrals and credit guarantees (predominantly targeting SMEs). - Monetary and financial measures: - NBR policy rate cut: 125 bps to 1.25 percent. - Temporary asset purchase program for domestic government securities: 0.5 percent of GDP so far. - Liquidity provision, regulatory easing, bank loan repayment deferrals. - Private credit as share of GDP improved by end-2020. ### Outlook and Risks - 2021 projections and drivers: - Real GDP growth projected: 7 percent in 2021, led by private consumption and vaccine rollout momentum. - Inflation expected to rise towards end-2021 because of electricity and fuel adjustments, then return within the target band in 2022. - Better agricultural harvest later in 2021 expected to support output and curb food prices. - Current account projected to widen slightly in 2021 reflecting strong growth. - Medium-term EU funds role: - NGEU grants assumed: 6 percent of GDP in grants alone for 2021-26. - EU 2021-27 multiannual budget: around 12 percent of GDP in structural funds. - Staff assumes moderate pickup in absorption of EU structural funds; full utilization of NGEU grants assumed by 2026. - IMF staff macro projections (selected figures as presented): - Real GDP (yoy): 2017: 7.3; 2018: 4.5; 2019: 4.1; 2020: -3.9; 2021: 7.0; 2022: 4.8 - Output gap: 2017: 1.9; 2018: 2.6; 2019: 3.0; 2020: -2.4; 2021: -1.0; 2022: 0.0 - CPI inflation (yoy, eop): 2017: 3.3; 2018: 3.3; 2019: 4.0; 2020: 2.1; 2021: 4.1; 2022: 2.9 - Unemployment rate (average): 2017: 4.9; 2018: 4.2; 2019: 3.9; 2020: 5.0; 2021: 4.9; 2022: 4.9 - Current account balance (Percent of GDP): 2017: -3.1; 2018: -4.6; 2019: -4.9; 2020: -5.2; 2021: -5.4; 2022: -5.2 - Fiscal balance (cash): 2017: -2.8; 2018: -2.8; 2019: -4.6; 2020: -9.7; 2021: -6.8; 2022: -5.9 - Gross external debt (Percent): 2017: 51.8; 2018: 48.8; 2019: 49.2; 2020: 57.7; 2021: 57.7; 2022: 57.1 - Gross general government debt (Percent): 2017: 34.5; 2018: 34.7; 2019: 48.7; 2020: 51.0; 2021: 46.6; 2022: 35.0 - RRF spending impact (staff calculations): - Total new spending (bn EUR) by year: 2021: 1.7; 2022: 2.7; 2023: 2.7; 2024: 2.2; 2025: 2.2; 2026: 2.2 - Total new spending, as % of GDP (2021–2026): 0.7; 1.0; 1.0; 0.8; 0.7; 0.7 - Impact on GDP levels (ppt) by year: 0.3; 0.7; 1.1; 1.4; 1.7; 1.9 - Impact on real GDP growth rates (ppt) by year: 0.3; 0.4; 0.4; 0.3; 0.3; 0.3 - Notes: 90/10 split for investment and other spending assumed. Full grant absorption by 2026 with a flat absorption profile assumed. - Risks: - Main downside: adverse unexpected shifts in the pandemic (new strains, shorter vaccine effectiveness, vaccine hesitancy). - Financial market repricing risk to deficit financing; mitigants: fiscal liquidity buffer, FX reserves, ECB repo line. - Political risks: fluid parliamentary alignments could slow structural reforms and worsen fiscal trajectory. - Upside: stronger-than-expected 2021 growth and faster/larger EU funds absorption. ### Fiscal Policy: 2021 Budget, Medium-Term Strategy and Recommendations - 2021 budget and stance: - 2021 budget target: deficit of 7.2 percent of GDP. - Staff baseline fiscal deficit estimate for 2021: 6.8 percent of GDP (0.4pp below the budget). - Fiscal savings from wage and pension restraint: estimated around 1 percent of GDP. - Pandemic support measures extended through mid-2021; wind down of domestically-financed COVID support in H2 2021 and increased reliance on EU-funded support and investment. - Fiscal support measures for the COVID-19 crisis (Lei billion) — disbursed in 2020 / planned for 2021: - Health system measures: 5.6 / 3.8 - Income support for individuals and companies, including grants: 10.6 / 11.5 - Other support, including revenue measures and guarantees: 25.0 / 26.1 - Overall: 41.2 / 41.5 - Sources: IMF staff estimates. - Staff assessment and strategy: - 2021 budget broadly appropriate: avoid premature withdrawal of crisis support while signaling consolidation. - Fiscal financing in 2021 expected manageable amid low external funding costs and lower external amortization than in 2020. - If COVID persists into H2 2021, extend crisis measures accepting a higher deficit; if recovery surprises upside, lock in consolidation gains. - Medium-term consolidation: - Authorities target deficit under 3 percent of GDP by 2024; staff views 3 percent as appropriate. - Under staff frontloaded package, public debt would stabilize at 52 percent of GDP by 2022. - Staff baseline: moderate ongoing consolidation, but persistent large deficits and expanding public debt into medium term (Annex IV: DSA). - Peak recommended fiscal adjustment: 2.4 percent of GDP in 2022. - Remaining fiscal adjustment beyond EU-fund substitution: less than 1 percent of GDP (estimated limited impact on growth, in range of 0.2-0.5 ppt of GDP for the peak adjustment in 2022 per source). - Expenditure and revenue reforms: - Personnel expenditures expanded by 22 percent annually during 2017-2019; 2021 budget reversed the trend. - Staff estimates further spending reforms could add 0.3 percent of GDP to consolidation in 2022. - Revenue administration reforms: tax efficiency among the lowest in the EU; Fund TA recommended modernizing IT infrastructure, strengthening compliance risk management, improving ANAF governance, addressing staffing shortages and skills mismatches. - Revenue gains of 0.5 percent of GDP built into staff baseline; steadfast implementation could yield an additional 0.3 percent per year into the medium term. - Revenue consolidation menu (percent of GDP): - Reduce the turnover threshold for the micro regime below EUR 100,000: 0.21 - Broadening SSC and PIT tax base: 0.22 - Increase the tax rate on dividends from 5 to 10 percent: 0.16 - Remove low tax rates for the PIT and SSC in the IT and construction sectors: 0.33 - Remove special VAT treatment of financial and insurance services: 0.11 - Property tax reform: 0.25 - Apply an ad-valorem excise on all sugar-sweetened beverages packaged for final consumption: 0.11 - Apply an excise on heated tobacco: 0.04 - Total (menu): 1.4 - EU funds, investment, and growth implications: - Access over next six years to 20 percent of GDP in RRF grants and EU structural funds. - Substitution of domestic financing by EU inflows projected at 1 percent of GDP in baseline and additional 0.5 percent of GDP within proposed measures. - Effective absorption requires improved public investment management and procurement. - Bridging half the governance gap with regional peers could add 0.3 percentage points annually to medium-term growth. ### Monetary Policy, Financial Sector Measures and Contingency Planning - NBR stance and measures: - Policy rate: 1.25 percent after 125 bps cuts. - APP: secondary market purchases of government bonds (½ percent of GDP to date). - Reduced statutory reserve requirements in FX from 8 to 5 percent. - Precautionary ECB repo line: Euro 4.5 billion (extended to March 2022). - Guidance: limit dividend payouts and share buybacks (extended until September 2021). - Banking system resilience: - Pre-pandemic capital ratios: around 22 percent; loan loss provisioning around 60 percent (pre-pandemic level; EU average 45 percent). - Loan deferrals: peak over a fifth of total loans in early 2020; by Q1 2021 outstanding stock estimated at less than 5 percent. - IMM Invest guarantees ceiling: RON 35 billion across 2020 and 2021 (part of about RON 44 billion cumulative corporate guarantees ceiling). - Share of credit guarantees to SMEs: 2020: 73 percent; 2021 (planned): 71 percent. - Policy recommendations for recovery phase: - Maintain accommodative monetary and financial settings to support recovery and cushion fiscal consolidation impacts. - Prepare to handle possible deterioration in bank asset quality once relief measures expire; ensure efficient insolvency procedures. - Rebuild capital and liquidity buffers gradually while ensuring credit capacity. - Fully enforce classification and provisioning rules; banks to undertake NPL diagnostics and develop credible plans. - Support creation of private asset management companies and markets for problem assets. - If inflation pressures persist, consider limiting accommodation and preparing for rate hikes. - Gradually increase exchange rate flexibility as crisis recedes to absorb external shocks. ### Financial Sector Stress Tests, NPLs, and SME Support - Stress test outcomes and scenarios: - CET1 drawdown historically-simulated: around 3½ percentage points between end-2019 and end-2021; simulated results remained above thresholds. - Actual outturns: capital ratios continued to rise over 2020 and 2021 to date; bank profitability largely sustained. - Banking metrics and trends: - Share of FX loans in total credit: around 30 percent and declining. - Deposit-to-loan ratio: on an uptrend; retail deposits dominant source of liquidity. - Capital buffers: substantial; capital ratios grew to more than 20 percent prior to COVID-19. - NPL ratios: remain low so far; provisioning increased to cover possible deterioration. - IMM Invest program details: - Government guarantee up to 80 percent for medium enterprises; 90 percent for small and micro enterprises. - Loan tenor: 3-6 years differentiated by purpose; interest rates starting from 3-month ROBOR + 2 percent per annum. - Distribution by number of enterprises: 52 percent Micro; 38 percent Small; 10 percent Medium. - Main beneficiary industries: construction, road transport, agriculture, restaurants. ### Structural Reforms, Governance, RRF and Climate Commitments - Structural reform priorities: - Improve public services and public investment quality and absorption capacity; SOE corporate governance reforms and monitoring. - Strengthen revenue administration and modernize ANAF IT and compliance systems. - Continue judicial reforms and anti-corruption measures; robust implementation of AML/CFT framework and EU directives. - RRF and NGEU specifics: - Total envelope over next six years: 20 percent of GDP. - Authorities requested entire RRF envelope: around €29 billion (14 percent of 2020 GDP), of which €14.3 billion in grants and €15 billion in loans. - RRP commitment: at least 37 percent of resources toward climate objectives and 20 percent to digital transition. - Selected pillar allocations (as presented): - Transport 7.62 - Renovation Fund 2.20 - Renewable energy 1.62 - Water management 1.88 - Forest and biodiversity 1.37 - Waste management 1.20 - “Romania Educated” €3.6bn (noted €2.8bn in two places) - Government Cloud 1.89 €1.89bn - Local fund for green and digital transition €2.8bn - Tourism and culture €2.3bn - Hospitals Fund 2.45 - Tax and pension reforms 0.5 - Private sector support, R&D, innovation and SOE reform 2.36 - RRF expected to boost medium-term growth if implemented successfully; digitalization focus should support tax administration modernization and climate action. - Climate and energy targets: - ETS emissions (% compared to 2005): Target -43.9; Progress -39.3 in 2015. - Non-ETS emissions (% compared to 2005): Target -2; Progress -8.3% in 2015. - Overall share of renewable energy in gross final energy consumption (2017): Target 30.7; Progress 24.5 in 2017. - Final energy consumption (% compared to PRIMES 2007 baseline): Target -40.4; Progress -31.8% in 2015. - Authorities pledged to phase out coal mining and coal for power generation by 2032 and adopt a law with mandatory coal replacement schedule by 2022. ### External Debt, Public Debt Dynamics and DSA Findings - External debt developments: - Gross external debt rose sharply to 57.7 percent of GDP in 2020. - Public external debt reached 27 percent of GDP in 2020. - Under baseline, external debt expected to plateau and remain broadly stable at 57.5 percent of GDP in 2026. - Gross external financing needs expected to remain above 20 percent of GDP. - Stress and shock scenarios: - Interest rate shock: debt stays close to 2020 level. - Growth-rate and current account shocks: external debt increases. - Combined shocks (½ standard deviation to growth, current account, interest rate): external debt reaches 69 percent of GDP in 2026. - 30 percent depreciation in 2022: external debt increases sharply to 86 percent of GDP and remains around that level over medium-term. - Public debt and fiscal dynamics (selected DSA figures as listed): - Nominal gross public debt (selected): 37.1 (2019); 36.8 (2020); 49.8 (2021); 51.5 (2022); 53.5 (2023); 55.7 (2024); 57.9 (2025); 59.7 (2026); 61.4 (projection series). - Public gross financing needs (percent of GDP): 10.2 (2019); 9.1 (2020); 14.1 (2021); 11.2 (2022); 10.9 (2023); 11.1 (2024); 11.2 (2025); 10.4 (2026); 10.8 (final listed). - Real GDP growth series (percent) in DSA projections: 3.0 (2019); 4.1 (2020); -3.9 (2021); 7.0 (2022); 4.8 (2023); 3.8 (2024); 3.8 (2025); 3.6 (2026); 3.5 (projection series). - Change in gross public sector debt (annual, percent of GDP): 1.6 (2019); 0.4 (2020); 13.0 (2021); 1.7 (2022); 2.0 (2023); 2.2 (2024); 2.2 (2025); 1.8 (2026); 1.7 (final listed); 11.6 (cumulative). - Primary deficit (percent of GDP): 1.6 (2019); 3.5 (2020); 8.4 (2021); 5.3 (2022); 4.2 (2023); 4.1 (2024); 3.8 (2025); 3.5 (2026); 3.2 (final listed); 24.1 (cumulative). - Policy implications: - Prioritize public health responses; allow automatic stabilizers and use fiscal space for targeted support. - Maintain accommodative monetary and financial settings while advancing structural reforms. - If market risk-off occurs: tighten monetary settings, allow greater exchange rate flexibility, use fiscal liquidity buffer, manage financial stability risks. - If recovery is faster: lock in budgetary gains, phase out exceptional measures, accelerate reforms. - Prioritize reforms to public investment management to maximize benefits from EU resources. ### Distributional Effects, Inequality and Social Policy Recommendations - Pandemic impact on inequality: - The pandemic aggravated inequality; setbacks in human capital accumulation and risks of increased long-term unemployment with disproportionate impact on disadvantaged groups. - Output in Q1 2021 surpassed pre-pandemic peak; growth for 2021 projected at 7 percent. - Policy recommendations for inclusiveness: - Refocus policies toward inclusive growth via better-targeted health care, education, and social protection. - Shift pandemic support toward most affected sectors and disadvantaged groups while ensuring continued generous fiscal resources for vaccine rollout. - If recovery surprises on the upside, save windfall revenues. - Fiscal and expenditure guidance: - Broaden revenue base and strengthen revenue administration for equitable tax burden and improved tax efficiency. - Reprioritize expenditures to boost public investment while ensuring sustainable wage and pension trajectories. ### Implementation Record and Data/TA Engagement - Implementation of past Article IV recommendations (selected outcomes): - 2019 fiscal deterioration led to EDP; 2021 government signaled consolidation with deficit capped close to 7 percent of GDP and pledge to return to 3 percent by 2024. - Public investment rate increased somewhat in 2019; EU funds absorption remained low in 2019 but showed improvement in 2020. - New AML/CFT law adopted June 2019; EU AML/CFT directives transposed May 2021. - Revenue administration: progress in compliance risk management and e-services; four-year IT Strategy identified priorities. - Data adequacy: - Data provision adequate for surveillance; Romania a subscriber to SDDS Plus since November 1, 2019. - National accounts: ESA 2010; quarterly and annual reporting timely. - NBR reports core FSIs and monetary statistics; BoP and IIP: BPM6 implemented since September 2014. - Fund engagement and TA: - Technical assistance focused on Tax Administration (ANAF), public financial management, NPL accounting and insolvency, monetary and exchange rate policy tools. *IMF staff report: ROMANIA — STAFF REPORT FOR THE 2021 ARTICLE IV CONSULTATION—INFORMATIONAL ANNEX (Prepared by European Department). July 22, 2021.* ### 2021. The new government is committed to balance continued pandemic-related ### 1rouea2021001 - 2021. The new government is committed to balance continued pandemic-related support with the start of a medium-term fiscal consolidation trajectory that corrects pre-pandemic excesses, while implementing a range of structural reforms. ### Context - Romania experienced a GDP contraction in 2020 of -3.9 percent, milder than the EU average of -6.2 percent. - The new center-right coalition government (PNL) introduced a budget that balances continued pandemic support with the start of consolidation and envisages returning the deficit to 3 percent of GDP by 2024. - Large Next Generation EU (NGEU) grants are expected to bolster recovery and medium-term prospects. - Political developments: after December 2020 elections, the government engaged more closely with the EU and committed to structural and governance reforms that had stalled previously. ### Recent Developments - GDP rebound: - Growth recovered strongly after Q2 2020; real GDP growth reached 4.6 percent (q/q) in Q4 2020 and 2.8 percent (q/q) in Q1 2021. - Gross fixed capital formation expanded in 2020 despite the overall contraction. - Inflation and prices: - Headline inflation fell to 2.1 percent y/y by December 2020 (target band 1.5–3.5 percent). - Electricity prices surged 17 percent y/y in January–April 2021 following re-liberalization. - Initial months of 2021: headline inflation rose due to re-liberalization of electricity prices, higher natural gas prices, and rebounding global commodity prices. - External sector: - Current account deficit widened to 5.2 percent of GDP in 2020 from 4.9 percent in 2019. - Net services exports rose (fall in outbound tourism, increasing IT receipts); higher EU fund inflows increased secondary income. - Portfolio investment was the main source of current account financing; foreign exchange reserves increased and coverage remains more than adequate. - Fiscal response to the pandemic: - Fiscal deficit expanded to 9.7 percent of GDP in 2020 (2019: 4.6 percent of GDP). - The implemented fiscal package comprised 2.2 percent of GDP in direct spending and revenue measures and an additional 1.7 percent of GDP in guarantees and other actions. - Types of support: health care expenditures; temporary wage subsidies, leave and unemployment benefits, targeted hiring incentives; business liquidity support via tax deferrals and credit guarantees (predominantly targeting SMEs). - Monetary and financial measures: - National Bank of Romania (NBR) reduced policy rates by 125 bps to 1.25 percent. - NBR launched a temporary asset purchase program for domestic government securities (0.5 percent of GDP so far) and provided liquidity, regulatory easing, and bank loan repayment deferrals. - Private credit as a share of GDP improved by end 2020, reversing a near decade-long decline. ### Outlook and Risks - 2021 projection and drivers: - Real GDP growth projected at 7 percent in 2021, led by private consumption, factoring in vaccine rollout and positive carryover from Q4 2020 and Q1 2021. - Inflation expected to rise towards end-2021 due to electricity and fuel-related price adjustments, then return within the target band in 2022 as transitory effects fade. - A better agricultural harvest later in 2021 is expected to support output and curb food prices. - Current account projected to widen slightly in 2021 reflecting strong growth. - Medium-term role of EU funds: - NGEU grants assumed: 6 percent of GDP in grants alone for 2021-26. - EU 2021-27 multiannual budget: around 12 percent of GDP in structural funds. - Staff assumes moderate pickup in absorption of EU structural funds; full utilization of NGEU grants assumed by 2026. - IMF staff macro projections table (selected figures as presented): - Real GDP (yoy): 2017: 7.3, 2018: 4.5, 2019: 4.1, 2020: -3.9, 2021: 7.0, 2022: 4.8 - Output gap: 2017: 1.9, 2018: 2.6, 2019: 3.0, 2020: -2.4, 2021: -1.0, 2022: 0.0 - CPI inflation (yoy, eop): 2017: 3.3, 2018: 3.3, 2019: 4.0, 2020: 2.1, 2021: 4.1, 2022: 2.9 - Unemployment rate (average): 2017: 4.9, 2018: 4.2, 2019: 3.9, 2020: 5.0, 2021: 4.9, 2022: 4.9 - Current account balance (In Percent of GDP): 2017: -3.1, 2018: -4.6, 2019: -4.9, 2020: -5.2, 2021: -5.4, 2022: -5.2 - Fiscal balance (cash): 2017: -2.8, 2018: -2.8, 2019: -4.6, 2020: -9.7, 2021: -6.8, 2022: -5.9 - Gross external debt (Percent): 2017: 51.8, 2018: 48.8, 2019: 49.2, 2020: 57.7, 2021: 57.7, 2022: 57.1 - Gross general government debt (Percent): 2017: 34.5, 2018: 34.7, 2019: 48.7, 2020: 51.0, 2021: 46.6, 2022: 35.0 - Estimated Growth Impact of the Recovery and Resilience Facility (RRF) funds (staff calculations): - Total new spending (bn EUR) by year: 2021: 1.7, 2022: 2.7, 2023: 2.7, 2024: 2.2, 2025: 2.2, 2026: 2.2 - Total new spending, as % of GDP: 0.7, 1.0, 1.0, 0.8, 0.7, 0.7 (2021–2026) - Impact on GDP levels (ppt) by year: 0.3, 0.7, 1.1, 1.4, 1.7, 1.9 - Impact on real GDP growth rates (ppt) by year: 0.3, 0.4, 0.4, 0.3, 0.3, 0.3 - Notes: 90/10 split for investment and other spending assumed. Full grant absorption by 2026 with a flat absorption profile assumed. - Risks: - Main downside risk: adverse unexpected shifts in the pandemic (new strains, shorter vaccine effectiveness, vaccine hesitancy). - Financial market repricing could challenge deficit financing, though mitigated by fiscal liquidity buffer, FX reserves, and the ECB repo line. - Political risks: fluid parliamentary alignments could slow structural reforms and worsen fiscal trajectory. - Upside risks: stronger-than-expected growth momentum in 2021; faster and larger absorption of EU funds boosting growth. ### Policy Discussions and Key Recommendations - Overarching prescription: - Continue macroeconomic policy accommodation to entrench recovery. - Prepare and implement medium-term expenditure reforms, broaden the revenue base, and improve revenue administration to correct pre-crisis fiscal imbalances. - Monetary and financial policies should cushion the impact of fiscal consolidation on activity and allow greater exchange rate flexibility as the crisis recedes. - Structural reforms should focus on governance improvements and raising the quality and absorption capacity of public investment. - Key Recommendations (as stated): - Fiscal Policy: - 2021 budget appropriately continues COVID-19 crisis support while laying the ground for medium-term consolidation. - Temporary measures should shift towards supporting the most affected sectors and households. - Strengthen the revenue base and improve its administration to ensure sufficient room for policy maneuver once temporary support is scaled back. - Growing use of EU funding will continue to support "building forward better." - Monetary Policy and Financial Sector: - After easing during the crisis, the National Bank of Romania should sustain monetary and financial accommodation to support recovery and cushion the impact of fiscal consolidation and thereby help achieve its inflation objective. - Prepare to handle a possible deterioration in bank asset quality once relief measures expire and ensure efficient insolvency procedures. - Structural Reforms: - Improve provision of public services and public investment, including through SOE reforms. - Governance improvements are integral to revenue administration reforms and would help raise the quality and absorption capacity of public investment, boosting medium-term growth prospects. ### Authorities’ Views - Government assessment: - Authorities saw upside risk to their earlier 5 percent growth projection for 2021 given strong momentum through Q1 2021. - They projected medium-term growth around 5 percent, higher than staff, assuming higher NGEU funds absorption and stronger effects on potential growth. - Authorities concurred with staff that pandemic-related developments remain the main risk and maintained a continued supportive macroeconomic stance. *IMF mission report: discussions by video conference during May 10–28, 2021; mission met with Prime Minister Cîțu, Finance Minister Nazare, Governor Isărescu, other senior officials and stakeholders; staff team comprised Jan Kees Martijn (head), Rudolfs Bems, Seng Guan Toh, Neil Meads, Mengxue Wang, Georgia Babici; HQ support by Wei Zhao and Agnesa Zalezakova; Nadeem Ilahi and Liviu Voinea attended part of meetings. July 22, 2021.* ### 14. The 2021 budget targets a deficit of 7.2 percent of GDP, helped by a restraint on ### The 2021 budget targets a deficit of 7.2 percent of GDP, helped by a restraint on public wages and pensions ### Fiscal stance and 2021 budget plans - 2021 budget target: deficit of 7.2 percent of GDP. - Staff baseline fiscal deficit estimate for 2021: 6.8 percent of GDP, 0.4pp below the budget. - Fiscal savings from wage and pension restraint: estimated at around 1 percent of GDP. - Pandemic support measures: extended through mid-2021 with increased focus on the most affected sectors; wind down of domestically-financed COVID support in H2 of 2021 and increased reliance on EU-funded support and investment. - All broad categories of pandemic support measures have been extended through mid-2021 (see Annex III for details in source). - Fiscal support measures for the COVID-19 crisis (Lei billion) — disbursed in 2020 / planned for 2021: - Health system measures: 5.6 / 3.8 - Income support for individuals and companies, including grants: 10.6 / 11.5 - Other support, including revenue measures and guarantees: 25.0 / 26.1 - Overall: 41.2 / 41.5 - Sources: IMF staff estimates. - The 2021 budget increases investment expenditures and further boosts utilization of EU structural funds. Plans for the EU Recovery and Resilience Facility (RRF) funds have been submitted to the EC, but associated increase in grant-financed investments was not yet incorporated in the 2021 budget. ### Staff assessment and recommended fiscal strategy - Staff view: 2021 budget plans are broadly appropriate — avoid premature withdrawal of crisis support to reduce scarring, while signaling consolidation to markets concerned about the fiscal deficit trajectory. - Implementing the 2021 budget would bring the fiscal expansion, relative to pre-pandemic levels, marginally below the emerging market average (figure in source). - Fiscal financing in 2021: expected to be manageable amid currently low external funding costs and lower external amortization than in 2020. - If the COVID crisis persists into H2 2021, authorities should extend crisis measures, accepting a higher deficit. If the crisis abates sooner and outturns surprise on the upside, any fiscal consolidation gains should be locked in. ### Medium-term consolidation, measures, and targets - Authorities target further deficit reduction to under 3 percent of GDP by 2024 (to resolve the EU’s EDP); staff views 3 percent as an appropriate target. - Under staff frontloaded package, public debt would stabilize at 52 percent of GDP by 2022. - Staff baseline scenario: moderate ongoing fiscal consolidation based on moderation in wage and pension growth, but still features persistent large fiscal deficits and expanding public debt into the medium term (Annex IV: DSA). - Peak recommended fiscal adjustment: 2.4 percent of GDP in 2022. - Remaining fiscal adjustment beyond EU-fund substitution: less than 1 percent of GDP (estimated limited impact on growth, in range of 0.2-0.5 ppt of GDP for the peak adjustment in 2022 per source). - Expenditure reforms: - Personnel expenditures expanded by 22 percent annually during 2017-2019; 2021 budget reversed the trend. - Structural reforms needed to replace ad-hoc measures; viable pension system and public sector wage reform required. - Staff estimates further spending reforms could add 0.3 percent of GDP to fiscal consolidation in 2022. - Revenue administration reforms: - Tax efficiency among the lowest in the EU; Fund TA recommended modernizing IT infrastructure, strengthening compliance risk management, improving ANAF governance, addressing staffing shortages and skills mismatches. - Revenue gains of 0.5 percent of GDP are built into staff baseline; steadfast implementation could yield an additional 0.3 percent per year into the medium term. - Revenue consolidation (menu of possible measures) — percent of GDP: - Reduce the turnover threshold for the micro regime below EUR 100,000: 0.21 - Broadening SSC and PIT tax base: 0.22 - Increase the tax rate on dividends from 5 to 10 percent: 0.16 - Remove low tax rates for the PIT and SSC in the IT and construction sectors: 0.33 - Remove special VAT treatment of financial and insurance services: 0.11 - Property tax reform: 0.25 - Apply an ad-valorem excise on all sugar-sweetened beverages packaged for final consumption: 0.11 - Apply an excise on heated tobacco: 0.04 - Total (menu): 1.4 ### EU funds, investment, and growth implications - Over the next six years Romania will have access to 20 percent of GDP in RRF grants and EU structural funds. - Part of higher inflows is projected to substitute for domestic financing of government investments; substitution projected at 1 percent of GDP in the baseline and an additional 0.5 percent of GDP within the proposed additional measures. - Effective absorption of additional funds requires improvements in public investment management and government procurement. - The remaining fiscal adjustment (less than 1 percent of GDP) is expected to have a limited impact on growth and could be offset by monetary and financial policies and governance reforms. - Staff estimates bridging half of the gap in governance rankings with regional peers could add 0.3 percentage points annually to Romania’s medium-term growth. ### Authorities’ fiscal views - Authorities emphasize continued pandemic support and note the 2021 fiscal outturn might outperform budget plans given the strength of recovery. - They highlight sectors needing further help (e.g., HoReCa) and that pandemic support funds would be redirected to industries most in need. - Authorities reiterate commitment to reduce the fiscal deficit to below 3 percent of GDP by 2024 and commit to reforms of wages, pensions, and tax administration as presented in their Recovery and Resilience Plan (RRP) submitted to the EC. - Authorities envisage a possible 2.5pp of GDP improvement in revenue collection by 2024 through ANAF reforms; tax policy reforms to be implemented gradually and subject to further study. ### Monetary and financial policies - NBR’s easing in response to the pandemic was broadly appropriate and conformed with Fund advice; banking system entered the pandemic with strong capital, liquidity, and profitability. - Loan service moratoria: concentrated in initial months; pipeline has ebbed and the overwhelming amount has since been repaid. Less than 5 percent of the stock of loans affected by deferrals remained (compared to over a fifth of total household and corporate loans at peak). - Loan loss provisioning in the banking system was around 60 percent (pre-pandemic level; above the EU average of 45 percent); banks preemptively raised provisions further in 2020 and planned to release some provisions during 2021. - NBR recommendations to limit dividend payouts and share buybacks were extended until September 2021. - Staff supports continued accommodative monetary policy while preparing for recovery: - Maintain current policy rate given anchored inflation expectations within the target band, negative output gap, muted wage growth projections, and pandemic-related uncertainties. - Extend monetary accommodation beyond this year if consistent with the inflation target, especially if more frontloaded fiscal consolidation materializes. - Keep liquidity-providing tools on hand; purchases of government securities can be reactivated if stresses recur. - If inflation pressures prove more persistent, consider limiting accommodation and preparing for rate hikes. - External position: 2020 external position weaker than implied by fundamentals; staff recommends gradually increasing exchange rate flexibility as crisis recedes to absorb external shocks and help address current account deficit. ### Financial sector resilience and contingency measures - If significant deterioration in asset quality occurs, NBR should balance accommodation with maintaining prudent buffers; current restrictions on bank capital distributions seen as adequate. - If loan portfolios deteriorate materially, use of capital can be accommodated while allowing a longer period to rebuild. - In case of a surge in NPLs, NBR and banks expected to draw on 2014-2018 experience (including sales to private asset management companies). - Preparations needed for efficiently handling potential increase in debt restructuring and business insolvencies; anticipated transposition later in 2021 of the EU directive on insolvency and restructuring should help. ### Structural reforms and governance - Romania lags EU peers in quality and quantity of infrastructure and provision of public services; significant infrastructure gaps in transport and digitalization. - Strengthen governance of state-owned enterprises (SOEs) and implement corporate governance reforms already adopted. - Reverse worsening financial performance of SOEs, with reforms and enhanced monitoring in sectors with heavy SOE presence (e.g., energy). - Re-energize efforts to improve economic governance; bridging half the gap with regional peers could add 0.3 percentage points annually to medium-term growth. - Governance improvements should be integral to revenue administration reforms to limit corruption vulnerabilities, and central to strengthening public investment management from planning and procurement to implementation. - Continue progress with judicial reforms and anti-corruption framework; robust implementation and monitoring of the improved AML/CFT framework and recently transposed EU AML/CFT directives are needed. *Sources: IMF staff estimates.* ### 29. The pandemic has aggravated ### 29. The pandemic has aggravated inequality ### Pandemic impact and policy recommendations - Findings: - The pandemic has aggravated inequality. Although Romania’s aggregate economy fared relative well during the pandemic, there have been setbacks in human capital accumulation and risks of increased long-term unemployment, with a disproportional negative impact on more disadvantaged groups. - Output in Q1 2021 surpassed the pre-pandemic peak and growth for the year is projected at 7 percent. - Policy recommendations: - Refocus policies towards inclusive growth through better-targeted health care, education, and social protection. - Shift pandemic support measures towards the most affected sectors and disadvantaged groups while ensuring continued generous fiscal resources for a speedy vaccine rollout. - If the recovery surprises on the upside, save the windfall revenues. ### Fiscal stance and medium-term fiscal policy - Findings: - The 2021 budget lays the foundation for fiscal consolidation, but significant additional medium-term consolidation efforts will be needed to reduce the deficit to the authorities’ target of 3 percent of GDP. - Policy recommendations: - Broaden the revenue base and strengthen revenue administration to achieve a more equitable distribution of the tax burden and improve tax efficiency. - Reprioritize expenditures by boosting public investment, while ensuring a sustainable medium-term trajectory for wage and pension spending. - The next Article IV consultation is recommended on the standard 12-month cycle. ### Monetary and financial sector policy - Recommendations and cautions: - Monetary and financial sector policies should remain accommodative. The National Bank of Romania should sustain monetary and financial accommodation to support the recovery and cushion the impact of fiscal consolidation, while monitoring inflationary risks. - If bank asset quality deteriorates, the NBR should balance accommodating stance and prudential concerns and have preparations in place to handle any deterioration in bank asset quality once the relief measures expire. - Once the crisis recedes, exchange rate flexibility should be gradually increased to absorb external shocks and help address the current account deficit. ### Governance, public investment, and structural reforms - Findings: - Subpar governance and government effectiveness are constraints to raising incomes towards average EU levels. - SOE reforms, starting with strengthening corporate governance, are priorities; governance improvements are integral to reforms of revenue administration and to improving and speeding up public investment. - Strengthening the anti-corruption framework and ensuring robust implementation (including of the AML/CFT framework) are essential. - Authorities’ views and planned actions: - Authorities emphasized SOE reforms, corporate governance improvements, and eliminating bottlenecks in public investment processes, including public procurement improvements. - Authorities expected necessary judicial reforms to be passed by parliament by end-2021. - Authorities are exploring renewable energy sources and natural gas as alternatives to coal and a gradually increasing role for environmental taxes. - A bold set of governance reforms was incorporated in the RRP. ### Climate and energy targets (2021–2030 INECP overview) - Romania committed to contribute to the EU climate and energy targets by 2030. - Targets and progress: - ETS emissions (% compared to 2005): Target -43.9; Progress -39.3 in 2015. - Non-ETS emissions (% compared to 2005): Target -2; Progress -8.3% in 2015. - Overall share of renewable energy in gross final energy consumption (2017): Target 30.7; Progress 24.5 in 2017. - Final energy consumption (% compared to targets set in PRIMES 2007 baseline scenario): Target -40.4; Progress -31.8% in 2015. - Policy commitments: - Authorities pledged to phase out coal mining and the use of coal for power generation by 2032 and to adopt a law with a mandatory coal replacement schedule by 2022. ### Recovery and Resilience Plan (RRF) — scope, allocation, and priorities - Scale and composition: - Romania will be a major beneficiary of the EU Recovery and Resilience Facility (RRF), with investment plans structured around six pillars. - Total envelope of 20 percent of GDP over the next six years. - Within NGEU, the authorities requested the entire envelope under the RRF of around €29 billion (14 percent of 2020 GDP), o/w: €14.3 billion in grants, and €15 billion in loans. - The authorities’ plan was guided by the requirement to dedicate at least 37% of resources towards climate objectives, and 20% to digital transition. - Projects in the plan cover the entire lifetime of the RRF until 2026. - Pillars and selected allocations (as presented): - Transport 7.62 - Renovation Fund 2.20 - Renew able energy 1.62 - Water management 1.88 - Forest and biodiversity 1.37 - Waste management 1.20 - “Romania Educated” €3.6bn and noted €2.8bn in two places - Public systems digitalization Government Cloud 1.89 €1.89bn - Local fund for green and digital transition €2.8bn - Tourism and culture €2.3bn - Health and resilience: Hospitals Fund 2.45 - Social reforms, public administration reform, social dialogue, justice efficiency 0.2 and 0.15 as shown - Tax and pension reforms 0.5 - Private sector support, R&D, innovation and SOE reform 2.36 - Smart Growth, Green Transition, Digital transformation, Social and territorial cohesion, Policies for the next generation represented across the plan. - Expected benefits: - Successful implementation of RRF reform commitments and investment projects would boost Romania’s medium-term growth prospects. - The RRF focus on digitalization should provide critical support for modernizing tax administration and help address climate change. ### Empirical evidence and reform scenario on governance and growth (Box 2) - Empirical findings: - Analysis of 94 EMs during 1996-2015 indicates a two standard deviation change in the governance score leads to an increase in output estimated at 1.3 percent on impact and 1.5 percent after 6 years. - Among governance components, improvements in government effectiveness increase medium-term output the most. - Reform scenario for Romania: - A feasible reform scenario motivated by the pace of governance reforms observed during the EU accession period suggests that closing ½ of the governance gap with the EU peers by 2026 would increase annual medium-term GDP growth rate by 0.3pp. - The persistent reform effort would close ¼ of Romania’s income gap with its EU peers by *Source: IMF staff report content provided in the supplied PDF content unit.* ### 2026. The impact could be even larger if reforms target gains in government effectiveness, where ### 1rouea2021001 - 2026. The impact could be even larger if reforms target gains in government effectiveness, where ### Governance and Impact on Output - The governance gap with CEE peers is the largest in government effectiveness (governance index, normalize CEE=100). - The main channel of impact involves public investment. - The effect of governance improvements via public investment and private investment each comprises 1/3 of the total impact on output. - Note: The governance indicator is perception-based and should be interpreted with care as it is based on opinion surveys and expert assessment. Interpretation should take into account that there is uncertainty surrounding each point estimate. - Estimated cumulative impact on output: impact on output cumulated from yearly governance improvement shocks and estimated impulse response for output (see Annex VIII). ### Real Sector (Figure 1: Romania: Real Sector, 2007–21) - COVID-19 hit economic activity in Q2 2020 on the nationwide lockdown, but rebounded thereafter. - Recovery driven mainly by consumption after a partial reopening since May 2020. - Construction-related investment was sustained by carry forward of past measures and public investment. - Economic sentiment and confidence indicators have largely recovered. - Retail sales have resumed positive growth and industrial production has been normalizing recently. - The construction boom in 2019-20 has started to ebb. - Growth contracted in 2020 as the pandemic affected contact-intensive services and export-oriented manufacturing related to the automotive sector. - Romania has remained closely integrated with the Euro Area, with the downturn and recovery broadly synchronized. ### External Sector (Figure 2: Romania: External Sector, 2007–21) - Exports initially plunged more than imports but have since rebounded, helping to stabilize the trade balance. - Rebound contributed to moderating the widening trend in the current account deficit. - Net FDI flows contracted markedly in the COVID-19 crisis. - Portfolio and capital account inflows (higher EU funds) offered support. - Higher government debt issuance in 2020 was supported by continued non-resident holdings. - The real exchange rate remained relatively stable. - Foreign reserve coverage improved at end 2020 on ramped-up Eurobonds and EU fund inflows including SURE loan proceeds. - Sources: Haver Analytics; National Bank of Romania, IMF Information Notice System (INS); and IMF staff calculations. - Note: 1/ Reserves coverage is based on end-of-year data. ### Labor Market (Figure 3: Romania: Labor Market, 2007–2021) - Starting from record lows, the rise in unemployment rate has been restrained by labor support measures during the COVID-19 crisis. - The drop in employment has been relatively moderate compared to the GFC downturn. - Real wage growth continued in 2020 but was more moderate than in recent years. - More moderate public sector and minimum wage hikes, and a public wage freeze in 2021 to curb past excesses. - Cumulative wage increases in past several years have exceeded economy-wide productivity gains (even netting out the 2018 shift in social security contributions). - Unit labor costs in manufacturing have been on an upward trend, accompanied until recently by large minimum wage hikes. - Sources: Eurostat, Haver Analytics; and IMF staff calculations. - Note: Year 2018 reflects the upward adjustment of gross wages due to the shift in social security contributions from employers to employees, which kept net wages and costs to employers unaffected. ### Monetary Sector (Figure 4: Romania: Monetary Sector, 2007–21) - Headline inflation declined to the lower half of the target band by end 2020, but has surged in 2021 following the re-liberalization of electricity prices and pickup in fuel prices. - The NBR has kept excess liquidity generally tightly controlled over the past two years to avoid sharp currency depreciation. - Inflation expectations in the region are picking up again, affected by shifts in COVID-19 pandemic developments. - Despite cuts in the policy rate from 2020, Romania’s real interest rates remain high among CEE peers. - Interest rates for domestic currency instruments remain relatively elevated, keeping wide the differential with rates on Euro-denominated instruments. - Sources: Haver Analytics; National Bank of Romania; Eurostat; Consensus Forecast; and IMF staff estimates. ### Fiscal Operations (Figure 5: Romania: Fiscal Operations, 2008–22) - The fiscal deficit approached 10 percent of GDP in 2020 due to the severe economic contraction and COVID-19 support, but consolidation is in train. - Tax revenues contracted in line with nominal GDP, keeping ratios broadly stable. - Expenditures surged, led mainly by higher social spending, including labor support measures. - Absorption of EU funds improved somewhat in 2020, facilitated by the new EU crisis support disbursements. - Large fiscal deficits in response to the crisis are projected to markedly raise government debt, albeit from Romania’s relatively low levels. - Rigidities in the budget structure were driven by wages, pensions and childcare allowances increases in 2020, but are projected to be curbed in 2021 while capital spending rises. - Sources: Romanian authorities; and IMF staff estimates and projections. ### Financial Sector (Figure 6: Romania: Financial Sector, 2008–20) - Local-currency lending continued to grow, supported by government guaranteed loans and crisis easing measures. - Share of FX loans in total credit has continued its long decline to around 30 percent. - Liquidity is ample as the deposit-to-loan ratio has been on an uptrend in the past few years; retail deposits are the dominant and stable source of bank liquidity. - Capital buffers are substantial; capital ratios grew to more than 20 percent prior to the COVID crisis and have been kept high on dividend payout restrictions. - NPL ratios remain low so far in the crisis, while provisioning has increased to cover possible credit deterioration ahead. - Bank profitability has declined but on average remained positive in 2020. - Sources: Dxtime; and National Bank of Romania. - Note: In December 2015, the NBR moved from a national definition to an EBA methodology-based definition of NPLs. ### Financial Developments (Figure 7: Romania: Financial Developments, 2013–21) - Romania's stock market has fully recovered from the plunge at the outset of the COVID-19 crisis. - Leu volatility has been modest compared to peers in recent years and through the COVID crisis. - Modest real depreciation in 2020 which was less pronounced than in most peers. - Romania's CDS spread remains elevated relative to peers after narrowing post-initial shock. - Romania's EMBIG spreads have shown a similar trajectory. - Interbank rates remain higher than in peers, despite rate cuts. - Sources: Bloomberg; and Haver Analytics. ### Selected Quantitative Highlights from Tables - Table 5a: Revenue as percent of GDP: 2017: 28.0; 2018: 29.2; 2019: 28.9; 2020: 28.9; 2021: 30.3; 2022: 30.0; 2023: 29.6; 2024: 29.7; 2025: 29.9; 2026: 30.1. - Table 5a: Expenditure as percent of GDP: 2017: 30.8; 2018: 32.0; 2019: 33.5; 2020: 38.6; 2021: 37.1; 2022: 35.8; 2023: 35.4; 2024: 35.4; 2025: 35.3; 2026: 35.3. - Table 5a: Fiscal balance as percent of GDP: 2017: -2.8; 2018: -2.8; 2019: -4.6; 2020: -9.7; 2021: -6.8; 2022: -5.8; 2023: -5.8; 2024: -5.6; 2025: -5.4; 2026: -5.2. - Table 5a: Gross general-government debt (percent of GDP): 2017: 36.8; 2018: 36.5; 2019: 36.8; 2020: 49.8; 2021: 51.5; 2022: 53.5; 2023: 55.7; 2024: 57.9; 2025: 61.7; 2026: 61.4. - Table 5b (millions of lei): Revenue 2020: 304,934; 2021: 356,401; 2022: 381,170; Expenditure 2020: 407,189; 2021: 436,931; 2022: 454,937. - Table 5b (millions of lei): Fiscal balance 2020: -102,255; 2021: -80,530; 2022: -73,766. - Table 6 (Monetary Survey): Broad Money (M3) levels: 2016: 261,831; 2017: 286,256; 2018: 314,135; 2019: 350,112; 2020: 381,075; 2021: 422,629; projected 2021 end: 487,450 (Prel./Proj. columns indicate data and projections). - Table 6 (Monetary Survey): Reserve money 2019: 97,850; 2020: 100,350; 2021: 108,249; projected 2021 end: 99,752; projected later: 124,293. - Table 6 (Annual percent change): Broad money (M3): 2016: 8.4; 2017: 9.3; 2018: 9.7; 2019: 11.5; 2020: 8.8; 2021: 10.9; later: 15.3; 10.2. - Table 6 (Memorandum): CPI inflation, eop: 2016: 0.8; 2017: -0.9; 2018: -0.5; 2019: 3.3; 2020: 3.3; 2021: 4.0; projected: 2.1; 2.8. - Table 3–7 and additional detailed tables and balance sheet entries provide further disaggregated fiscal, external, and financial statistics for 2014–26 (figures and line-items available in the source tables). *International Monetary Fund (selected excerpts from the source PDF).* ### Annex I. Implementation of Past Article IV Recommendations ### Annex I. Implementation of Past Article IV Recommendations ### Fiscal - Recommendation: Fiscal consolidation should start by meeting the 2019 deficit target with quality measures. - Outcome: Romania's fiscal position continued to deteriorate in 2019. The fiscal deficit was much higher than originally expected (-4.6% of GDP instead of -2.8%) due mainly to the build up of major spending commitments (especially regarding wages and pensions) but also revenue underperformance. This triggered the opening of an Excessive Deficit Procedure (EDP) by the European Union (EU). - 2020 response: With the onset of the COVID-19 crisis, multifaceted fiscal response has been provided in 2020 for essential support for jobs and business. - 2021 path: The new center-right government has signaled a trajectory of fiscal consolidation by capping the 2021 budget deficit close to 7 percent of GDP, and pledging to return the deficit to 3 percent of GDP by 2024. - Recommendation: Measures to lower the deficit should avoid further deterioration of the budget structure (i.e. rigid wages and pension spending) and protect capital spending. Implementation of the new pension law should balance social and equity needs and fiscal costs. - Outcome: In 2019, share of rigid items increased, and it continued to deteriorate in 2020 given the onset of the pandemic. - Policy adjustments: The government amended the new pension law and capped the 2020 increase at a lower level. - 2021 measures: Proposed policies intend to partly correct for pre-pandemic expenditure excesses, including a public sector wage freeze and freezing the pension benefits. Public investment will be supported by a pickup of EU-funded projects, including through new resources under the Next Generation EU (NGEU) funds. - Recommendation: Modernize revenue administration by upgrading IT systems and improving compliance risk management. Strengthen expenditure reviews and the procurement process. - Outcome: Despite COVID-19 challenges, revenue administration progressed on developing modern compliance risk management processes, introducing a broad set of e-services and access to external data sources, including financial information from banks. - IT and procurement: A four-year IT Strategy has identified priorities for further IT deployment, building a more digital administration. Centralized procurement process was launched but its implementation has been slow and limited in scope. Progress on spending reviews has been modest. ### Monetary and financial - Recommendation: Continue tightening monetary policy to curb inflationary pressures. - Outcome: Inflation ended year 2019 above the target band. NBR maintained tight liquidity management during that year but did not raise policy rates further after the hikes in 2018. Inflation pressures receded with the onset of the COVID-19 crisis and the NBR began reducing policy rates from March 2020. Inflation ended year 2020 in the lower half of the target band. - Recommendation (from FSAP): Address vulnerabilities from exposure of banks to the government and the real estate sector, including continuing to scale back the Prima Casa guarantee program. - Outcome: No restrictions on exposure of banks to the government were introduced in 2019, and in 2020 following the onset of the pandemic the EU relaxed bank exposure guidance for non-euro area sovereign bonds. - Prima Casa: The Prima Casa program was continued in 2019 with modifications to expand eligibility, but size of guarantees for 2021 were reduced. ### Structural reforms - Recommendation: Public investment rate should be increased by focusing on public infrastructure and improving utilization of EU structural funds. - Outcome: Public investment rate increased somewhat in 2019, but mostly on the account of domestic public infrastructure investment. EU funds absorption remained relatively low in 2019 for the programming period 2014-2020 but showed signs of improvement in 2020. - Forward look: For the coming years, the government is looking to further boost the utilization of EU funds and is preparing a new Recovery and Resilience Plan. - Recommendation: SOE governance reforms require a re-start to raise the quality of public goods and services. - Outcome: There was no progress with implementation of SOE governance reforms in 2019. The new government in early 2021 pledged to strengthen the governance of state-owned enterprises and introduced tighter monitoring criteria for SOEs. - Recommendation: AML/CFT framework should be strengthened further. The new AML/CFT legislation should be followed by robust implementation. - Outcome: The new AML/CFT law, adopted in June 2019, and supplementary legislation from 2019 addresses many of outstanding deficiencies in Romania’s AML/CFT framework, bringing Romania to "largely compliant" status with regard to FATF standards. EU AML/CFT directives were fully transposed in May 2021. - Recommendation: Minimum wage hikes should be moderated and linked to a set of objective criteria that reflect productivity developments. - Outcome: Minimum wages were significantly raised in early 2019 without reference to criteria, but starting 2020 a formula was established based on inflation and labor productivity. *Annex I. Implementation of Past Article IV Recommendations — IMF staff summary* ### 9. External debt rose sharply in 2020 to stand at 57.7 percent of GDP. After peaking in ### 1rouea2021001 - 9. External debt rose sharply in 2020 to stand at 57.7 percent of GDP. After peaking in ### External debt: recent developments - External debt rose sharply in 2020 to stand at 57.7 percent of GDP. - After peaking in 2012, gross external debt declined to reach 48.8 percent in 2018, driven by public and private sector deleveraging. - A slight increase occurred in 2019 due to higher public borrowing. - A more substantial increase in 2020 was driven by substantial Eurobond issuance. - Public external debt reached 27 percent of GDP in 2020, similar to levels observed in 2012. ### Projections and baseline scenario - External debt is expected to plateau in the coming years. - Under the baseline scenario, external debt is projected to remain broadly stable at 57.5 percent of GDP in 2026. - Gross external financing needs are expected to gradually decline but to remain above 20 percent of GDP. - Roll-over risks of the non-banking sector are limited, as a large portion of debt stems from inter-company lending. - Debt dynamics under the baseline scenario are slightly higher than in a scenario where key variables are kept at their historic levels. ### Stress tests, shocks, and vulnerabilities - Under an interest rate shock scenario, debt stays close to the 2020 level. - Under growth-rate and current account shock scenarios, external debt increases. - In a tailored combined shocks scenario (permanent ½ standard deviation shock applied to growth, current account, and interest rate), external debt reaches 69 percent of GDP in 2026. - In a stress scenario with a 30 percent depreciation in 2022, external debt would increase sharply to 86 percent of GDP and remain around that level over the medium-term. - External debt dynamics are susceptible to shocks according to staff analysis. ### Public debt and fiscal dynamics (selected figures from Public DSA) - Nominal gross public debt: 37.1 (2019), 36.8 (2020), 49.8 (2021), 51.5 (2022), 53.5 (2023), 55.7 (2024), 57.9 (2025), 59.7 (2026), 61.4 (projection series as listed). - Public gross financing needs (in percent of GDP): 10.2 (2019), 9.1 (2020), 14.1 (2021), 11.2 (2022), 10.9 (2023), 11.1 (2024), 11.2 (2025), 10.4 (2026), 10.8 (final listed). - Real GDP growth (in percent): 3.0 (2019), 4.1 (2020), -3.9 (2021), 7.0 (2022), 4.8 (2023), 3.8 (2024), 3.8 (2025), 3.6 (2026), 3.5 (projection series). - Inflation (GDP deflator, in percent): 3.7 (2019), 6.8 (2020), 3.8 (2021), 4.2 (2022), 3.0 (2023), 3.2 (2024), 2.8 (2025), 2.9 (2026), 2.7 (projection series). - Effective interest rate (in percent): 4.9 (2019), 3.7 (2020), 3.9 (2021), 3.7 (2022–2026 listed as 3.7). - Change in gross public sector debt (annual, percent of GDP): 1.6 (2019), 0.4 (2020), 13.0 (2021), 1.7 (2022), 2.0 (2023), 2.2 (2024), 2.2 (2025), 1.8 (2026), 1.7 (final listed), 11.6 (cumulative). - Identified debt-creating flows (annual, percent of GDP): 1.0 (2019), 1.4 (2020), 10.2 (2021), 1.9 (2022), 2.1 (2023), 2.3 (2024), 2.3 (2025), 2.0 (2026), 1.8 (final listed), 12.4 (cumulative). - Primary deficit (percent of GDP): 1.6 (2019), 3.5 (2020), 8.4 (2021), 5.3 (2022), 4.2 (2023), 4.1 (2024), 3.8 (2025), 3.5 (2026), 3.2 (final listed), 24.1 (cumulative). - Primary (noninterest) revenue and grants (percent of GDP): 31.0 (2019), 28.9 (2020), 28.8 (2021), 30.2 (2022), 29.9 (2023), 29.6 (2024), 29.7 (2025), 29.8 (2026), 30.1 (final listed), 179.4 (cumulative). - Primary (noninterest) expenditure (percent of GDP): 32.6 (2019), 32.2 (2020), 37.2 (2021), 35.6 (2022), 34.1 (2023), 33.7 (2024), 33.5 (2025), 33.4 (2026), 33.3 (final listed), 203.6 (cumulative). - Automatic debt dynamics contribution (percent of GDP): -0.6 (2019), -2.0 (2020), 1.9 (2021), -3.5 (2022), -2.0 (2023), -1.7 (2024), -1.5 (2025), -1.5 (2026), -1.4 (final listed), -11.8 (cumulative). ### Policy considerations and recommended responses (from RAM and staff analysis) - Prioritize public health responses to curb the disease; allow fiscal automatic stabilizers to operate and use fiscal space for targeted support. - Maintain broadly accommodative monetary and financial settings while advancing structural reform agendas to facilitate resource reallocation. - If a market risk-off event occurs: tighten monetary settings, allow greater exchange rate flexibility, utilize some fiscal liquidity buffer temporarily, and manage financial stability risks. - If pandemic recovery is faster: lock in budgetary gains for fiscal consolidation, phase out exceptional crisis measures to avoid cliffs, and accelerate structural reforms. - To mitigate domestic fiscal risks and populist disruptions: design a package combining spending restraint (wages and pensions), public investment prioritization, structural reforms, and compensatory/support programs for affected groups. - To realize benefits from EU resources: prioritize and accelerate reforms of public investment management institutions and processes to raise EU fund absorption and reduce budget financing constraints for investment. *Source: IMF staff. Canonical source: https://www.imf.org/-/media/files/publications/cr/2021/english/1rouea2021001.pdf* ### 5. Significantly better ### 1rouea2021001 - 5. Significantly better ### Alternative scenarios and risks - Structural upside: Significantly better absorption of EU funds (structural). - Conjunctural downside/upside scenarios: - 1. Unexpected shifts in the COVID-19 pandemic: Prolonged pandemic (conjunctural). - 3. Unexpected shifts in the COVID-19 pandemic: Faster containment (conjunctural). - 2. Sharp rise in risk premia that exposes financial and fiscal vulnerabilities (conjunctural). - 4. Political risks from a change in government due to parliamentary shifts in ruling coalition hamper implementation of reform plans (conjunctural). ### Annex VI — Monetary and Financial Policies During the Pandemic: Policy roadmap (Table A) - Lockdown phase (actions taken): - Monetary easing totaling 125 bps in policy rate to 1.25 percent, with a further 50 bps narrowing of interest rate corridor, and asset purchase program (APP). - APP in the form of secondary market purchases of government bonds (½ percent of GDP to date); FX intervention to sustain smooth FX market functioning. - Reduced statutory reserve requirements in FX from 8 to 5 percent. - Precautionary ECB repo line of Euro 4.5 billion (initially to end 2020, extended to March 2022). - Repos to banks and APP providing liquidity. - Allowed use of previously built capital buffers; waived compliance with minimum liquidity ratio; restriction on dividend payouts; government guaranteed loan program predominantly to SMEs. - Freeze on classification and provisioning standards arising from pandemic-related relief measures (in line with EBA guidance at the time in 2020). - Debt service moratoria, with loan repayment deferrals up to 9 months allowed. - Reopening phase (actions and observations): - Accommodative monetary stance maintained; maintain monetary policy accommodation until policy objectives are achieved, and at least through 2021. - NBR asset purchases kept domestic market financing costs and premia contained; APP paused in August 2020 but resumed modestly in March-April 2021; FX intervention sales continued. - NBR guided banks to raise loan loss provisioning to 65 percent coverage (above EU average of 45 percent) and to keep NPL ratios under 5 percent. - Loan deferrals window extended to March 15, 2021. No enhancements of restructuring mechanisms so far. - Dividend restrictions continued and extended until September 2021. - Recovery phase (recommended steps): - Withdraw support and rebuild capital and liquidity buffers gradually while ensuring capacity to extend credit. - Fully enforce classification and provisioning rules; banks to undertake NPL diagnostics and develop credible plans to reduce problem assets. - Support creation of private asset management companies and markets for problem assets; adopt a multifaceted strategy to address solvency in corporate and financial sectors. - Facilitate debt restructuring, prepare efficient and effective insolvency procedures; transpose EU Directive on insolvency and restructuring. ### SME-targeted state guarantee schemes (Table B) - IMM Invest flagship program: - Provided a ceiling of RON 35 billion across 2020 and 2021 (out of about 44 billion cumulative corporate guarantees ceiling by the government so far). - Government guarantee up to 80 percent of loan value for medium enterprises and 90 percent for small and micro enterprises. - Loan tenor between 3-6 years differentiated by purpose; interest rates starting from 3-month ROBOR + 2 percent per annum. - Banks’ underwriting criteria are maintained for approval. - Share of credit guarantees to SMEs: - 2020: 73 percent of value of executed guarantees. - 2021 (planned): 71 percent of value of guarantees. - Distribution of IMM Invest guarantees by number of enterprises: - 52 percent to Micro-category (0-9 employees). - 38 percent to Small-category (10-49 employees). - 10 percent to Medium-category (50-249 employees). - Selected viability-related eligibility criteria under IMM Invest: - Share capital: not lost more than half of its share capital in the last two years and more than a quarter of this capital in the last 12 months. - Credit and liability status performance: not have outstanding payments on other loans or tax arrears; not a defendant under litigation with the Ministry of Finance; not under insolvency; no ban to issue checks on date of credit approval; no major incidents with promissory notes in the last 6 months. - Main industries provided with IMM Invest guarantees: construction, road transport, agriculture (cereals and vegetables), restaurants. - Sources: As of March 2021. IMM Invest, national authorities. ### Discussion issue: Navigating the banking system through the COVID-19 recovery phase - Pre-pandemic banking system strengths (as of end-2019): - Capital (solvency) ratios: 22 percent. - Profitability: 1.3 percent return-on-assets. - Liquidity ratio: 2.3 versus regulated threshold of 1.0. - Loan-to-deposit ratio: about 70 percent. - Loan loss provisioning: around 60 percent (vs 45 percent EU average). - NPL ratios had been declining since 2014 to levels close to EU averages. - Policy interventions’ effects: - Liquidity provided, credit market functioning protected, flow of credit to households and businesses sustained. - Private credit to GDP rose in 2020 after declining since 2011. - Financial sector measures reinforced fiscal support and monetary policy easing. - Three dimensions for recalibrating bank policies in recovery phase (Table C): - I. Borrower support measures: - Debt service moratoria: initial take-up peaked at over a fifth of total outstanding household and corporate loans in early 2020; by Q1 2021 outstanding stock very low (estimated at less than 5 percent of total loans previously under moratoria). - Window to request loan deferrals expired on March 15, 2021. - Government credit guarantees cumulative ceiling around 4 percent of GDP, half taken up by end-2020. - Recommendation: Gradually replace part of liquidity from credit with government grant schemes (some EU funded) to help solvency. - II. Supervisory guidance and capital conservation: - Despite EBA-guided freeze in 2020, NBR asked banks to be conservative; banks reported provisioning was more than ample in 2020 and were in a position to release some in 2021. - No banks applied for relaxation to use capital buffers; capital ratios systemwide continued to increase since end-2019. - Dividends and share buy-back restrictions began in 2020 and were extended to September 2021 as recommendations. - Given high foreign ownership of the banking system (over 70 percent), extension of restrictions through most of 2021 is prudent. - Recommendation: Allow a longer period to rebuild capital if significant losses are recognized ahead. - III. Bank balance sheet repair: - Reported NPLs remain low into 2021, but a rise in bankruptcies and loan defaults may follow once support measures expire. - Obstacles to NPL resolutions exist due to distortionary legislative initiatives since 2018 (e.g., onerous tax treatment on NPL sales). - Recommendation: NBR to draw from experience reducing NPLs between 2014-2018, facilitate sales to private asset management companies, and amend legislative obstacles to NPL disposals. - Facilitating efficient insolvency and restructuring: current regime needs strengthening, lacking fast-track procedures and clear out-of-court options; useful changes to insolvency law envisaged for 2021 to transpose EU Directive on insolvency and restructuring. ### Banking system stress-test comparison and performance - Illustrative historically-based simulation (using IMF methodological framework): - Projected common equity Tier-1 (CET1) bank capital would have been drawn down by around 3½ percentage points between end-2019 and end-2021, even with a subset of policy support measures factored in. - Simulated results remained above various required thresholds. - Actual outturns: - Capital ratios continued to rise over 2020 and 2021 to date. - Bank profitability largely sustained despite the pandemic, in contrast to projected losses under the historical-stress simulation. *Source: 1rouea2021001 — description of Romanian authorities’ actions as of May 2021.* ### Annex VI. Figure 1. Romania Banks: Solvency Stress Test (Extended Coverage), April 2021 WEO ### Annex VI. Figure 1. Romania Banks: Solvency Stress Test (Extended Coverage), April 2021 WEO ### Document context and metadata - Staff report title: ROMANIA — STAFF REPORT FOR THE 2021 ARTICLE IV CONSULTATION—INFORMATIONAL ANNEX - Prepared by: European Department - Document date shown: July 22, 2021 - Residential Fund office overseen by Senior Regional Resident Representative: Mr. Nadeem Ilahi (since September 2019) - FSAP/ROSC activity: Joint IMF-World Bank mission update as part of FSAP during October 21-November 31, 2017, and January 11-23, 2018; Financial Sector Assessment Report discussed at the Board in June 2018. ### Fund relations — membership and quotas - Membership Status: Joined 12/15/72; Article VIII - Quota: 1,811.40 (SDR million) — 100.00 (percent) - Fund holdings of currency: 1,811.40 — 100.00 (percent) - Reserve Tranche Position: 0.00 — 0.00 (percent) - SDR Department: - Net cumulative allocation: 984.77 — 100.00 (percent) - Holdings: 989.93 — 100.52 (percent) - Outstanding Purchases and Loans — Stand-By arrangements listed with amounts approved and drawn (selected entries as presented): - Stand-By 09/27/13–09/26/15: 1,751.34 approved; 0.00 drawn (SDR million) - Stand-By 03/31/11–06/30/13: 3,090.6 approved; 0.00 drawn (SDR million) - Stand-By 05/04/09–03/30/11: 11,443.00 approved; 10,569.00 drawn (SDR million) - Stand-By 10/31/01–10/15/03: 300.00 approved; 300.00 drawn (SDR million) - Stand-By 08/05/99–02/28/01: 400.00 approved; 139.75 drawn (SDR million) - Stand-By 04/22/97–05/21/98: 301.50 approved; 120.60 drawn (SDR million) - Stand-By 05/11/94–04/22/97: 320.50 approved; 94.27 drawn (SDR million) - Stand-By 05/29/92–03/28/93: 314.04 approved; 261.70 drawn (SDR million) - Stand-By 04/11/91–04/10/92: 380.50 approved; 318.10 drawn (SDR million) ### Overdue obligations and projected payments to the Fund - Charges/interest forthcoming by year (SDR million, based on existing use of resources and present holdings of SDRs): - 2021: 0.02 - 2022: 0.02 - 2023: 0.02 - 2024: 0.02 - 2025: 0.02 - Total (as shown): 0.02 0.02 0.02 0.02 ### Exchange rate arrangement and monetary/financial engagement - Exchange Rate Arrangement: - Romania has accepted the obligations of Article VIII. - De jure arrangement: managed floating. - De facto arrangement reclassified to “crawl-like” from “stabilized” (effective August 23, 2019). - Technical assistance focus areas (multiple missions since 2012; summary of thematic areas and examples): - Tax Administration (ANAF): capacity strengthening, organizational reforms, compliance strategy, high net wealth individual compliance, modernizing tax administration to support revenue mobilization (missions listed including March–April 2012; July–August 2012; May 2020; and others). - Tax Policy: property tax and natural resource tax regime strengthening (September 2013), follow-up assistance (September 2014), petroleum tax workshop (June 2015). - Public Financial Management: setting up commitment control and fiscal reporting systems, fiscal transparency evaluation (March 2012; October 2012; April 2013; February 2014; January 2015; June 2015; June 2016; October 2016). - Financial Sector Issues and Monetary Policy: contingency planning and monetary policy framework assessments (November 2012; October 2014). - Accounting and NPL: achieving timely NPL write-off within the IFRS framework (October 2013). - Recent expert assistance focus: structural fiscal reforms, modernizing tax administration, strengthening public financial management, reviewing tax policy options; NBR technical assistance on contingency planning, dealing with non-performing loans, and reviewing monetary and exchange rate policy tools. ### Collaborations with other international financial institutions - As of June 23, 2021, Romania has collaborations with: - The World Bank Group - The European Bank for Reconstruction and Development - The European Investment Bank ### Statistical issues — data adequacy and availability - Assessment: Data provision is adequate for surveillance. - National accounts: Quarterly and annual national accounts produced by INS using ESA 2010; estimates reported to the Fund in a timely basis for IFS publication; provisional and semi-final versions disseminated via Statistical Yearbook and web (www.insse.ro). - Prices: CPI subject to standard annual reweighting and considered reliable; PPI coverage changed in January 2004 to include domestic and export sectors; PPI weights revised every five years with revisions finalized three years after the new base year. - Labor market: broadly adequate; employment definition consistent with ESA 2010. - Public finances: Annual GFS data reported on accrual basis derived from cash using adjustment methods; accrual data available quarterly three months after quarter end; EUR receives monthly cash budget execution data; consolidated data reported for IMF GFS annual database. - Monetary and financial statistics: NBR reports SRFs monthly for central bank and other depository corporations and quarterly for Other Financial Corporations (OFCs); NBR reports key Financial Access Survey series and IMF SDG indicators (commercial bank branches per 100,000 adults and ATMs per 100,000 adults). - Financial Soundness Indicators (FSIs): NBR reports all core and most encouraged FSIs for Deposit Takers quarterly; FSIs for nonfinancial corporations (NFCs) and households (HHs) sectors and real estate markets reported; FSIs for NFCs reported with a long lag. - External sector statistics: NBR reports quarterly and annual BoP and IIP statistics; Romania implemented BPM6 since September 2014; participates in CPIS and CDIS and reports IRFCL Data Template. - Data Standards and Quality: - Romania is a subscriber to the Fund’s Special Data Dissemination Standard Plus (SDDS Plus) since November 1, 2019. - A Data ROSC was published in November 2001. ### Table of Common Indicators Required for Surveillance (as of July 2021) — selected latest observations and reporting details - International Reserve Assets and Reserve Liabilities of the Monetary Authorities: - Date of latest observation: June 2021 - Date received: July 2021 - Frequency of Data: D and M - Frequency of Reporting: D and M - Frequency of Publication: M - Reserve/Base Money: - Date of latest observation: May 2021 - Date received: June 2021 - Frequency of Data: D and M - Frequency of Reporting: W and M - Frequency of Publication: M - Broad Money: - Date of latest observation: May 2021 - Date received: June 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Central Bank Balance Sheet: - Date of latest observation: May 2021 - Date received: June 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Consolidated Balance Sheet of the Banking System: - Date of latest observation: May 2021 - Date received: June 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Interest Rates: - Date of latest observation: June 2021 - Date received: July 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Consumer Price Index: - Date of latest observation: May 2021 - Date received: June 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Revenue, Expenditure, Balance and Composition of Financing – General Government: - Date of latest observation: May 2021 - Date received: July 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Stocks of Central Government and Central Government-Guaranteed Debt: - Date of latest observation: Q1 2021 - Date received: June 2021 - Frequency of Data: Q - Frequency of Reporting: Q - Frequency of Publication: Q - External Current Account Balance: - Date of latest observation: Apr 2021 - Date received: June 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Exports and Imports of Goods and Services: - Date of latest observation: Apr 2021 - Date received: June 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - Gross External Debt: - Date of latest observation: Apr 2021 - Date received: June 2021 - Frequency of Data: M - Frequency of Reporting: M - Frequency of Publication: M - International Investment Position: - Date of latest observation: Q1 2021 - Date received: May 2021 - Frequency of Data: Q - Frequency of Reporting: Q - Frequency of Publication: Q *Source: ROMANIA — STAFF REPORT FOR THE 2021 ARTICLE IV CONSULTATION—INFORMATIONAL ANNEX (Prepared by European Department, July 22, 2021).* --- _Source: https://www.imf.org/-/media/files/publications/cr/2021/english/1rouea2021001.pdf_