by Clare Nuttall
A slowdown from Romania’s exceptional 7% GDP growth last year was inevitable, but government policies that have dented consumer confidence coupled with the erupting political crisis that is likely to deter investment could result in a sharper slowdown and jeopardise longer term growth.
It’s too soon to talk of a hard landing for Romania — yet. The economy expanded by 4% in the first quarter of this year compared to the same period of 2017, an enviable rate for many economies, though for Romania it already represents a sharpish slowdown to the lowest pace of growth in two and a half years.
Indeed, the growth in January-March indicates Romania’s growth for the full year is likely to be around the low end of the range of forecasts from major international financial institutions — for example the World Bank and International Monetary Fund (IMF) have put 2018 growth at 5.1% while the European Commission expects just 4.5%; all the figures are well below the rather optimistic 6.1% anticipated by the Romanian government.
Just as the boom in the last couple of years was chiefly fuelled by consumption, in turn driven by the government’s pro-cyclical fiscal policies — Bucharest heaped fuel on the fire of the accelerating economy rather than adhering to received wisdom that resources should be kept for when the economy needs stimulus — the current slowdown has been caused mainly by an easing off of consumption caused again to a large extent by government policy, specifically by changes to the fiscal code that saw public sector workers’ take home pay stagnate even while they received nominal pay rises.
At the same time, inflation is on the rise, speeding up to a five-year high of 5.4% in May. This prompted IMF officials to reiterate fears that the economy is overheating, citing the hike in inflation and Romania’s twin (public and current account) deficits. The IMF recommended a “tighter macro‑economic policy stance [and] noted that a more cautious fiscal policy stance would help economic rebalancing and reduce the burden on monetary policy.”
It would be premature to say that consumption driven growth has run its course in Romania. Retail sales are still growing, albeit at a slower rate than previously, and car sales are robust. Consumer lending is also strong, with the stock of bank loans to Romanian households growing 22.8% y/y in May, containing a rapid rise that has inspired the authorities to consider tightening retail lending regulations. And indicating there is plenty of scope for further increases in consumer spending, Romania’s hourly average labour costs rose the fastest of any EU country in the first quarter of this year, while Romania also saw the largest increase in employment across the 28-country bloc in the same period.
But in the longer term, as forecast by the IMF, Romania’s growth is expected to slow down to its potential rate (the level of output that an economy can produce at a constant inflation rate) unless serious reforms are made to investment policy. Last year, pointed out the IMF, public investment fell to the lowest level in recent years as a percentage of GDP, and absorption of EU funds is persistently low.
A similar point was made by the European Bank for Reconstruction and Development (EBRD) country director for Romania, Matteo Patrone, at a presentation at the National Bank of Romania in mid-June. Patrone said that Romania needs a “new economic model” in order to sustain growth in the longer term. This model should be based on “innovation and integration in the global value chain” the banker said, rather than the consumption based growth of the last few years that has not been matched by increases in productivity.
Yet the chances of that happening anytime soon is remote given the political crisis into which the country has been plunged by the government’s efforts to remove the head of the national DNA, and President Klaus Iohannis’ subsequent refusal to sack her. There’s now talk of an imminent attempt by the ruling parties to start procedures to impeach the president. Meanwhile, the prison sentence issued to the leader of the ruling PSD LD has added another dimension of chaos to the political scene. In the current environment, the last thing on politicians’ minds is going to be long term strategy.