Long-term Outlook, Romania

25 Octombrie 2010

BANCA COMERCIALĂ ROMÂNĂ S.A.

 

Changes over previous version

We revised our economic growth forecast for 2010 to -2.1% from a previous -3%. The agricultural harvest will be better than initially expected and will provide an important support to real GDP having in view the significant share of the agriculture in gross value added (around 8%). On the other hand, imports volumes could remain faster than exports in 2H10 if domestic demand in industry continues to recover and there are pretty good chances for the external demand to turn negative in terms of GDP formation in 2010.

The second round effects of the recent hike in VAT on consumer prices will be rather low given the significant share of the peasant market that is less sensitive to fiscal developments, the stability of the RON and the contraction in households consumption. Our new forecast for December 2010 inflation rate is 8%.

C/A deficit could increase to 6.2% of GDP this year mainly because of falling remittances of Romanians working abroad and lower inflows of European funds. Trade deficit is likely to remain virtually unchanged as compared to the previous year at 6% of GDP. FDIs will be modest and our new forecast is consistent with total inflows worth EUR 2.3bn in 2010.

We have also revised downwards our forecast for registered unemployment rate to 8.5% in December 2010. The restructuring process of the public sector seems to be more difficult, while the private segment of the labour markets shows tentative signs of recovery helped by higher external orders in manufacturing.

 

Real economy

Real GDP increased by 0.3% q/q in 2Q10 (seasonally-adjusted data), but remained in negative territory as compared to the corresponding period of the previous year (-0.5% y/y). Households consumption went up by 0.8% q/q. This good performance could be ascribed to a tentative recovery of the private segment of the labour market, especially the economic areas that were more dependent on external demand (gross value added in industry advanced by 4.2% q/q). Overall, the number of registered unemployed people declined by 50,000 in 2Q10 against 1Q10. Government consumption shrank by 4% q/q following some cuts in current public expenditures. Gross fixed capital formation fell 4.4% q/q but inventories made a positive contribution to the economic growth. Imports (+4.9% q/q) were faster than exports (+2.0% q/q) and it seems that the future economic recovery will be accompanied by a minor widening in the trade deficit as domestic production does not match entirely the demand. Economic growth could enter again negative territory in q/q terms is 3Q10 in the context of the ambitious austerity package implemented by the government (a 25% cut in public wages, a 5 pp hike in VAT to 24% and the reduction in some social allowances and public subsidies as of July). Under the present scenario economic growth will stay below the potential in the years ahead and Romania willreach its pre-crisis GDP level no sooner than 2014.

 

External balance

C/A deficit could increase to 6.2% of GDP in 2010 in a scenario consistent with muted pressures from the domestic demand on one hand but a significantly lower surplus of the net current transfers on the other. The surplus of the net current transfers (both public and private sector) fell 39% y/y in January-August to EUR 1.8bn. According to the latest official information, Italy has a share of 43% in remittances from abroad, Spain 31% and Greece 7%. Besides lower remittances of the Romanian workers, net current transfers were affected by lower inflows of European funds. FDIs will finance less than 40% of the C/A deficit this year. They will be directed mainly towards areas with significant growth potential at the end of the present recession (energy, IT&C, agriculture).

Central bank FX reserves increased to a record EUR 32.5 billion in September, covering more than nine months of imports of goods and services. They can be considered slightly excessive and provide a cushion in case of a speculative attack on the RON coming from the external markets.

 

Prices

Our new forecast for December 2010 inflation rate is 8%. The second round effects of the VAT increase on the consumer prices are likely to be limited given the decline in households purchasing power, the stability of the RON and the good agricultural harvest. We see some risks coming from potential new hikes in administered prices, some of them related to higher commodities prices on global markets and others to the reduction of government subsidies in the context of the fiscal consolidation program.

Inflation has traditionally shown a great degree of persistence in Romania and even during the recession the "gains" in terms of disinflation were minor as compared to other countries. The chronic gap between the demand and the supply of domestic goods and services, the deficiencies of the consumer markets and the slow reforms in the public sector are the main culprits behind this undesirable pattern.

 

Labour market

In September registered unemployment rate (domestic methodology) remained constant for the fourth month in a row at 7.4%. While this could be seen as an sign of a stabilisation of the private segment of the labour market, we remain rather pessimistic concerning the unemployment outlook due to the rightsizing process in the government sector. As the government could begin to cut payrolls and the favourable summer seasonal effect in agriculture and construction will vanish, unemployment could climb to around 8.5% at the end of 2010. Economic growth will not be strong enough to reduce significantly the unemployment rate and our forecast shows that it will remain above precrisis levels in the next years. Real wages will be negative both in 2010 and 2011.

 

Public sector

The government decided to hike the VAT to 24% beginning with July following the resolution of the Constitutional Court to declare unconstitutional the 15% cut in nominal pensions. At the same time, public wages were reduced by 25%, privileged pensions will be recalculated (except for the pensions received by former members of the courts) and some social allowances have already been cut by 15%. Government's efforts to consolidate public finances seem to bear fruit and monthly budget deficit advanced by a minor 0.2% of GDP in August.

Romanian authorities are determined to continue the relation with the IMF after 2011 and a precautionary stand-by arrangement is the most likely scenario at present. Under the new agreement with the Fund, Romania will retain the option to draw on approved amounts if conditions deteriorate. EC will be also part of this agreement. A continuation of the agreement with the IMF in the next years is good news for the capital markets and opens the door for a successful issuance of euro mid-term notes on the global markets.

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