Investment fatigue sends economy back into recession

Romania has slipped into its third recession since 2009, triggered by the rollout of new taxes and the slowdown of public and private investments, say economists.

Eurostat, the statistics office of the EU, announced last month that Romania’s economy had posted the steepest fall, namely 1 percent of GDP, in the second quarter against the first. Although the flash estimate for the first quarter indicated a 0.1 percent expansion of the economy, revised data showed that in fact the economy contracted in the first three months too, by 0.2 percent.

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Selective statistics

The Romanian Statistics Institute (INS) sent the updated economic data for the first semester solely to Eurostat, which said the local economy had gone into technical recession. Asked why the INS did not also make the revision public in Romania, Tudorel Andrei, president of the statistics office, blamed it on young minimum-wage employees in the communication department, according to news portal www.hotnews.ro.

Andrei pointed out that the INS provides data to political decisionmakers, adding that the office is not under any political pressure. The first economist to discover that Romania had gone back into technical recession was Andrei Radulescu, senior economist at Banca Transilvania.

“It a short-term technical recession, brought about by the underperformance or the severe contraction of the gross formation of fixed capital of investments in the economy (…) In the first and second quarter, productive investments contracted at a very dramatic rate, with productive investments falling by 10 percent against last year. The drop was determined by the tense regional context, and, domestically, by the reduction of public investments by over 30 percent against the first six months of last year,” Radulescu told TV station Digi 24.

The government preferred to look at the annualized GDP growth rate of 2.4 percent in the first semester, down from 3.8 percent in the same period of last year. Prime Minister Victor Ponta went online to say that Romania had been driving a car at 130 km/h, but has now slowed down to 100 km/h, although it is still “going forward”.

“Although detailed data have not been published about the two decreases (0.2 percent in Q1 and 1 percent in Q2), we anticipate a continued reduction of investments, including in the public sector. At the same time it is possible, at a quarterly level, for the impact of next exports to have been negative in Q2 against Q1,” Dumitru Dulgheru, coordinator of the macro research and fixed income titles team at BCR, told BR.

The International Monetary Fund (IMF) forecasts that Romania’s economic growth will reach 2.8 percent this year, while the World Bank recently improved its estimate to 2.8 percent too. The European Commission, the executive arm of the EU, said in its spring forecast that the Romanian economy was set to grow to 2.5 percent this year.

Foreign investors worried by increased tax burden

Mihai Bogza, president of the Foreign Investors Council (FIC), reckons that the enforcement of the special construction tax and the levy of a new fuel excise tax of EUR 0.7 have further pushed up Romania’s tax burden against the EU average.

“Considering that the private sector was already weakened after years of crisis, the increase of the fiscal burden has significantly reduced its potential to generate growth and the first results can already be seen. Although I do not want to make any estimates for the rest of the year, I am worried about the danger of returning to a prolonged period of recession,” Bogza told BR.

The FIC president added that the country has to deal with a “harmful combination” of excessive taxation and inefficient use of resources by the state.

The government raised over EUR 300 million from the construction tax and new fuel excise in the first semester, according to business daily Ziarul Financiar, which cites data from tax collection agency ANAF.

However, oil companies said that the new fuel excise has hurt their sales of diesel and gasoline. Consumers will face higher electricity bills due to the adoption of the construction tax, which applies to anything from electricity poles to telecom antennas and gas transport pipelines.

Flavia Matei, senior consultant at Ensight Management Consulting, pointed out that this year’s economic growth ought to have been primarily driven by increased domestic consumption, which should have offset the slowing growth in exports.

She said this “beneficial context” was negatively impacted by the rollout of the construction tax and the new fuel excise, which impacted the investment plans of big companies in Romania.

Ponta suggested Romania should leave behind the austerity paradigm and focus more on growth. Among the pro-growth measures he put forward were an increase in the minimum wage and a tax exemption for reinvested profit.

Earlier this year, the government approved a scheme designed to lower individual borrowers’ loan repayments, which should have benefited close to 1 million people. The measure was shelved, which the PM blamed on the banks for lacking the “enthusiasm” to apply it.

Critics of the PM claim he is painting an unrealistic picture of the economy to boost his chances in the presidential race this November. Ponta will be the candidate of the center-left ruling coalition, comprising his own party the PSD, the UNPR and PC.

Public investment apathy

The PM explained why public investments came close to a standstill in the first seven months and urged the authorities to speed up expenditure in the next three months.

“I am appealing to all ministers, and to all public institutions. We have beaten an undesirable record. After seven months we have a deficit of 0.2 percent – I think we can compare ourselves only to Germany,” the PM told ministers in a government meeting in late August.

Ponta went on to say that Romania has money it is not spending, adding that this year’s deficit target is 2.2 percent of GDP.

According to data from the Ministry of Budget, investment expenses, which include capital expenditure and co-financing for projects developed through domestic or external (EU funds) financing, amounted to RON 11.8 billion (EUR 2.67 billion) in the first seven months, accounting for 1.8 percent of GDP.

This was down from RON 14.9 billion (EUR 3.4 billion) in the same period of last year. However, the ministry claimed investments were flat year-on-year, and that the additional expenditure last year was generated by the payment of arrears.

Cristian Nacu, partner at Poland-based PE fund Enterprise Investors (EI), told BR that the drastic reduction of infrastructure investments has dragged the economy back into recession, with a “disastrous impact for the construction industry”. EI’s portfolio of holdings in Romania includes Macon, a producer of building materials.

Country lacking mega-investments

Bogza of the FIC, which has over 130 multinationals as members, said foreign direct investment seems to have stabilized at around EUR 2 billion anually, which is too low for an economy with 20 million consumers. He said that most of the FDI flows are going into the recapitalization of recession-hit companies and not towards the setting up of new companies.

“As I have said on previous occasions, I cannot even remember when I last saw a really big investment in Romania, let’s say of around EUR 1 billion,” said Bogza. “Romania has not yet been able to restart that virtuous circle broken by the crisis, in which the positive expectations of investors brought money into the economy, creating jobs, which in turn increased domestic demand and attracted new investments.”

The FIC president warned that the positive momentum created by Romania’s accession to the EU back in 2007 has run out of steam since the financial crisis, suggesting that a lot of effort is required to create a new wave of positive expectations.

FDI to Romania fell by 10.3 percent to close to EUR 1.2 billion in the first half of this year, according to the National Bank of Romania (BNR). Economists expect it to stay in the EUR 2-3 billion band in the years to come.

Eurozone weighs in on domestic growth

Romania’s industrial output may slow down more markedly in the second half of this year, especially if domestic demand in the Eurozone slumps, suggested Dulgheru of BCR. He said that the overall growth of the economy in 2014 depends on the agricultural harvest.

The Eurozone reported zero growth in the second quarter, while the EU28 grew slightly, by 0.2 percent. With the Eurozone being the main recipient of Romanian exports, Ponta suggested Romania should tap other markets in Africa and Asia, as the Eurozone was “in recession”.

“Romania’s exports could be impacted by the weak growth rates in the EU28 area, but the growth forecasts from the start of this year did not rely on exports as the economy’s main growth factor this year,” said Matei of Ensight Management Consulting.

According to BNR, exports of goods rose by 5.4 percent in June compared to the same month of last year.

Ovidiu Posirca

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