Enlargement Papers - Romania

EUROPEAN COMMISSION
DIRECTORATE-GENERAL FOR ECONOMIC AND FINANCIAL AFFAIRS
ENLARGEMENT PAPERS

Issn 1608-9022
http://europa.eu.int/comm/economy_finance
N° 9 - April 2002
Economic Forecasts for the candidate countries
Spring 2002
by Directorate General for Economic and Financial Affairs

Romania
· The forecast envisages a continuation of recent favourable trends, most notably sustained GDP growth, declining inflation and disciplined fiscal behaviour.
· After deteriorating sharply in 2001, the current account deficit is expected to decline somewhat from its sizeable level on the back of a stable trade balance, increasing transfers from abroad, and falling interest payments.
· The forecast hinges upon the continued implementation of the government’s economic policy programme under the Stand-By Arrangement with the IMF. It also assumes manageable short-term macroeconomic costs of structural reforms and a dynamic supply response.
Last year, the economy expanded faster than expected. According to recently released estimates, based, for the first time, on ESA 95 methodology, GDP grew by 5.3% in 2001. Private consumption boomed, pulled by rising real wages and income. In addition, for the second year in a row, investment accelerated and stock-building contributed substantially to overall growth. The latter is somewhat puzzling and could be due to unresolved statistical problems in the estimation of GDP components. It could, also indicate that persistently weak financial discipline still allows loss-making enterprises to accumulate unsold products. On the back of accelerating domestic demand, net exports’ negative contribution to growth increased. Despite a sharp slow down in trade over the last quarter of 2001, export still recorded double-digit real growth on an annual basis but import grew even faster, to some extent because of oneoff factors. Production statistics show that the strong acceleration in growth was partly the result of a spike in agricultural output which increased by an estimated 21.2% in real terms, following the sharp decline induced by a draught in 2000.
The forecast envisages a continuation of recent positive economic trends based on two assumptions. First, the economic policy stance is projected to remain broadly appropriate as the authorities fulfil the commitments agreed under the present standby arrangement (SBA) with the IMF. Secondly, the external environment is assumed to improve following the deterioration of late 2001. With trade integration with the EU continuing to grow, a recovery in export markets is expected to start in 2002 and gather strength in 2003.
Taking these factors into account, GDP growth is expected to slow down but remain robust over the forecast period. This profile is the result of various counterbalancing trends. Private consumption growth is projected to decelerate as energy price adjustments and tighter wage discipline in public enterprises slow down real wage growth. Given the expected strengthening in enterprises’ financial discipline, stock building by unrestructured firms should contribute progressively less to GDP but the advancement of reform implementation should spur fixed investment growth. Finally, the ensuing increased competitiveness, the expected recovery in European markets, and the elimination of the one-off factors that boosted import demand in 2001 should lead to a reduction in the negative contribution of net exports to growth.
Despite the on-going adjustment in public tariffs and energy prices, disinflation is projected to continue with the year-on-year inflation rate falling to 15% by the end of the forecast period. In 2001, inflation declined sharply, although slightly less than expected. By December, the year-on-year rate had dropped by more than 10 percentage points to 30.3% despite increases of around 50% in energy prices and transport tariffs. In the first months of 2002, inflation continued to drop, suggesting that the cooling off of domestic demand, the incipient tightening of income policy and enterprises financial discipline, and a reduced rate of exchange rate depreciation should drive the inflation rate along the declining path envisaged by the SBA.
Contrary to recent trends, the forecast projects a slight rise in unemployment. After dropping below 7% on the back of the strengthening economic activity in 2001, the (ILO) unemployment rate is expected to rise as structural reforms advance. Under the
forecast scenario, however, only a moderate increase is projected as the positive impact of strong economic growth on labour demand is expected to compensate to a large extent the layoffs caused by structural reforms. After growing sharply in 2001, real wages are forecast to increase at a slower pace and in line with the projected increase in labour productivity.
Building upon the retrenchment of 2001, the authorities are expected to continue meeting the SBA fiscal deficit targets. After being loosened in 2000 and over the first half of 2001, the fiscal policy stance was significantly tightened later in 2001. As revenues fell short of the revised yearly target by 0.7% of GDP despite higher-thanplanned growth, expenditures had to be curtailed in order to meet the SBA nominal deficit target, equivalent to 3.3% of actual GDP. Since the authorities have already agreed with the IMF on the measures needed to neutralise the effect of the 2001 revenue shortfall on the 2002 fiscal objective, the forecast expects that the deficit target of 3% of GDP for 2002 and 2003 will be met.
After expanding sharply in 2001, the current account deficit is projected to decline but remain sizeable, thus leaving little room for complacency. On the back of rising domestic demand and one-off factors boosting import growth, the goods trade balance deteriorated sharply in 2001. As a result, the current account deficit widened by more than two percentage points to 5.9% of GDP despite an increase in unrequited transfers from abroad equal to 0.7% of GDP. Towards the end of 2001, however, the trade balance appeared to stabilise as the tighter macroeconomic policy stance began to take hold. Reflecting the policy assumptions underpinning the forecast scenario, the stabilisation of the trade deficit is projected to continue allowing the current account deficit to decline on the back of growing transfers from abroad and, in 2002, falling interest payments abroad.
Despite the better than expected performance of the Romanian economy in 2001, the overall risks to the forecast remain on the downside. They stem mainly from lingering doubts on the authorities’ policy commitments and from the uncertainty surrounding the short-term impact of structural reforms on the economy at large. As past experiences have shown repeatedly, the Romanian economy cannot be expected to sustain a high rate of growth without significant structural changes. While some of these changes are in the making, further difficult measures are needed and require a strong political will. Even if structural reform were to be implemented in full, the  iming and magnitude of the ensuing supply response is uncertain, making it difficult
to project the path of key macroeconomic variables.