Although our country’s economy has advanced healthily last year, the “2016 budget inappropriately gives stimulus when consumption growth is already strong,” a report by the International Monetary Fund (IMF) shows, following the mission’s visit to Romania.
Drawing attention that an election year is coming, a period when usually deficit-increasing measures are taken, the IMF warns that “hard won gains are at risk of being reversed”.
“Legislative initiatives in the financial sector, such as the current version of the giving-in-payment law (datio in solutum), contain provisions that could threaten private property rights, undermine investor sentiment, and curtail credit provision to households and businesses,” the report goes on to show, recommending “stronger efforts to maintain prudent policies”.
Our economy is on a cyclical upswing, with private consumption encouraged by hikes in wages and VAT reductions. With investments also showing signs of improvement, the mission forecasts a 4.2 percent GDP growth in 2016, slowing down to 3.6 percent in 2017.
However, the IMF warns, should the government decide for further fiscal measures, while consumption could be boosted in the short-term, these measures “will undermine sustainability of public finances and could dent market sentiment. Measures targeting the financial sector lacking proper impact analysis and consultation could harm credit intermediation and investment and undermine financial stability.”
This could lead to a deterioration in our market’s perception and lead to currency depreciation and a rise in the external debt ratio.
Rapid changes and strong fiscal stimulus is difficult to justify at a time when economic growth is already strong, the institutions says, although the new fiscal code “contains welcome simplification of the tax code.” The IMF expects the balance deficit to exceed the authorities’ target by 1/2 percent of GDP in 2017 unless further measures are taken, and warns that, even if it is kept within the 2.8 percent of GDP target, “public debt will exceed 40 percent of GDP and continue to gradually rise.”
The IMF recommends a change in path, with an aim towards debt-reduction, stating that the ” effort should start this year with spending discipline and better tax administration to find and preserve savings to keep the deficit at 2.5 percent of GDP.”
For 2017, Romania should target a of 2 percent of GDP and postpone further tax reductions on VAT and excises scheduled to come into effect next year. This could generate savings of 3/4 percent of GDP, which could be used “for both achieving the recommended deficit target and addressing other needs such as in the health and education sectors or for the gradual implementation of the unified wage law,” IMF goes on to say.
The financial institution has commended the National Bank’s (BNR) policy rate actions and reaffirmed what BNR’s governor, Mugur Isarescu, has been saying, that although the headline inflation is currently negative, the underlying inflation shows signs of improvement. This will lead to the headline inflation reaching BNR’s upper end of the target band by the end of 2017.
However, there has been a “persistent gap between the interbank market rate and the policy rate,” the report shows, indicating a need for the BNR to “consider signaling a tightening bias and begin to reduce the gap between the market and policy rates by absorbing liquidity from the market and narrowing the interest rate corridor. Given the large pro-cyclical fiscal impulse, monetary policy may need to shoulder some of the burden for managing domestic demand, ” the report concludes.