Romania: Selected Issues and Statistical Appendix

This Selected Issues paper and Statistical Appendix provides an estimate of the long-term path of Romania’s real exchange rate. The paper describes the recent history of the real exchange rate and its main determinants. A model is developed of a time-varying long-term exchange rate path, mainly driven by the terms of trade and net foreign direct investment. This long-term path is then used to assess the developments in Romania’s actual exchange rate. The paper also examines Romania’s growth potential in the medium term.

Abstract

This Selected Issues paper and Statistical Appendix provides an estimate of the long-term path of Romania’s real exchange rate. The paper describes the recent history of the real exchange rate and its main determinants. A model is developed of a time-varying long-term exchange rate path, mainly driven by the terms of trade and net foreign direct investment. This long-term path is then used to assess the developments in Romania’s actual exchange rate. The paper also examines Romania’s growth potential in the medium term.

III. The Romanian Labor Market 1

1. This chapter lays out the basic features of the Romanian labor market and points to the main policy challenges in a medium-term perspective. It acknowledges the importance of improving the Romanian labor market performance in a sound and sustained manner, particularly through strong job creation in the private sector. It argues in favor of a reduction in the tax burden on labor, a prudent wage policy and flexible employment regulations needed to preserve competitiveness and broaden the scope of the formal sector. In SOEs, the paper advocates tightening the links between wage or employment decisions and economic performance and productivity. Better targeted active labor market policies would help cushion the social impact of enterprise restructuring and address the current skill mismatch. This includes in particular, additional retraining efforts and improvements in the educational curriculum. Finally, the investment climate must be improved to promote growth and employment in dynamic exporting SMEs and the services sector.

A. Aggregate Labor Markets Trends

2. Romania’s working age population of 15.4 millions is currently growing at a modest 0.2 percent a year. Despite a declining and aging total population and large emigration in the early 1990s, the country now benefits from the entry of relatively large cohorts in adulthood (Figure 1). Total population, which fell by about 1 million since the early 1990s to the current level of around 22 millions, is thought to decline by 0.1-0.2 percent per year.

Figure 1:
Figure 1:

Aggregate Labor Market Trends In thousands, 1990-2002

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

Source: Romanian Statistical Yearbook; Labour market surveys; and Fund staff estimates.

3. The decline in labor force and total employment that affected the economy throughout the 1990s has recently slowed down. The labor force decreased by about 1.2 million (or 9 percent) in the past decade, implying a sharp drop in the participation rate. Over the same period, employment fell by about 2 millions (or 16 percent). In the past two years however, both the labor force and total employment appear to have reached a standstill. More tellingly, the number of wage earners stopped declining in 2001 for the first time during the transition, although a decline of 2-3 percent is expected for 2002, reflecting layoffs in state-owned enterprises.

4.The unemployment rate appears moderate for a transition economy but masks large underemployment (Figure 2). Seasonally-adjusted, the official unemployment rate dropped to 8.6 percent in October 2002, while the unemployment rate measured according to the ILO methodology has recently been even lower by about 2 percentage points. However, as in other transition economies, the large use of early retirement packages has somewhat mitigated the unemployment effects of the restructuring process. Besides, and more distinctive of the Romanian experience, the rural sector has to a large extent acted as an employer of last resort since the beginning of the transition, resulting in a rising share of agriculture in total employment. Underemployment of the existing workforce is therefore thought to be widespread, particularly in rural areas.

Figure 2:
Figure 2:

Unemployment Rate (Seasonally Adjusted) In percent, 1992Q1-2002Q4

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

Source: Ministry of Labour and Social Protection; and Labour market surveys.Note: The spike in 2002Q1 reflecfts the (largely temporary) registration to the minimum income scheme.

5. Unemployment average duration is high at over 18 months, pointing to skill mismatch, insufficient labor mobility and other structural problems. The evidence suggests low inflows and outflows into and out of employment. Long-term unemployed (over a year) represent about half of job-seekers and are over-represented in age group 35–49. Meanwhile, youth unemployment is also high at 25 percent. Unemployed are overwhelmingly found among workers with low to medium skills, particularly vocational graduates (Figure 3). Regional labor mobility also appears insufficient, as evidenced by more strained labor market conditions in areas of former industrial strongholds (Figure 4).

Figure 3:
Figure 3:

Un employment Distribution by Training Level. In thousands, 2002Q1.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

Source: Quarterly labour force surveys.
Figure 4:
Figure 4:

Unemployment Distribution by Regions In percent, 2002Q1.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

6. The reallocation of labor across sectors initiated by the transition has not yet been completed (Figure 5). Despite substantial job losses in heavy manufacturing and construction activities, services remain under-represented in the employment structure, heralding further large adjustments. A shrink in the share of agriculture can also be expected in the medium run, particularly in the context of EU accession.

Figure 5:
Figure 5:

Distribution of Employment by Sectors Shares in percent.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

Source: Romanian Statistical Yearbooks.

7. Public sector employment still comprises about 30 percent of the workforce (Figure 6). In fact, the share of public jobs rises to close to 50 percent in urban areas or when considering employees only. The state continues to enjoy virtually full control over utilities and is still significantly involved in manufacturing activities, with most large state-owned enterprises (SOEs) operating at loss. The current government rightly intends to pursue public employment downsizing. In the budgetary sector, further reductions are needed along with recruitments of skilled workers in certain areas (notably to cope with EU accession). However, the critical task will be to accelerate the restructuring and privatization of SOEs in an undistorted manner. The authorities currently face considerable pressures to incorporate employment and investment clauses in privatization contracts, but this imperils the efficiency of the restructuring process and jeopardizes transparency.

Figure 6:
Figure 6:

Public and Private Employment In thousands, 1994-2001.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

Source: Romania Statistical Yearbooks, Labour force surveys and Fund staff estimates.

8. The informal sector is large, although it comprises primarily second-rate jobs. Data on the grey economy is scarce but indirect evidence can be inferred from comparing administrative employment figures to labor force surveys. At least 1.5 million jobs (or about 15 percent of the labor force) could thus be attributed to informal activities in 2000. Large taxes and other non-wage labor costs have no doubt encouraged the growth of the underground economy in recent years (see below), but the sheer lack of opportunities in the formal sector also contributed to it. Moreover, informal jobs are often only part-time or seasonal, particularly in rural areas where family-based agriculture is widespread. Other sectors with a high share of informal jobs include hotels and restaurants, trade and transports and some manufacturing activities.

B. Labor Market Institutions and Policies

9. The employment legislation has been flexible so far but is currently being revisited. Basic and not over-constraining provisions on working hours, statutory leave, minimum wage and health standards apply to all individual labor contracts. Fixed-term contracts are allowed in practice. The Labor Code, the main labor law, is currently being revised as part of Romania’s transposition of EU acquis. In this context, it will be important to avoid introducing too cumbersome regulations, particularly on hiring and dismissal, the potential adverse effects of which have been evidenced in several developed countries, notably in Continental Europe. In addition, more flexibility is needed in SOEs, where the same framework applies in principle but powerful trade unions and political interference often hamper the adoption of decisions on retrenchment.

10. The bill on restricting the so-called “civil contracts” corrects an existing loophole in the regulatory framework. According to the legislation in place, work could be rendered under a civil service agreement (and outside the framework of ordinary labor contracts) for specific tasks not exceeding an average three hours per day. As many as 1.7 million such contracts were registered in mid-2002, of which about 1 million reportedly represented the main activity of the individuals (as opposed to a complementary source of income). Workers under a civil contracts are exempted from social security payments for pensions benefits. The current reform plan would convert a substantial fraction of the contracts into regular part-time labor contracts with compulsory social insurance. Nevertheless, the risk that these activities will cease to be reported should be acknowledged, and addressed by strengthened labor inspection and tax administration.

11. The wage determination framework, which is mainly decentralized, works well in the private sector. Annual collective wage bargaining is conducted at the national, sectoral and enterprise levels, and arrangements reached at higher level are binding for lower-level negotiations. However, national agreement are usually not restrictive and mainly serve the purpose of defining a uniform framework for wage settlements, leaving ample scope for wage differentiation in the private sector. In SOEs, however, the persistence of soft budget constraints blurs the link between wage setting and economic performance, with potentially adverse spillover effects on the rest of the economy.

12. Unemployment benefits may need to be better targeted. Former employees in the formal sector and self-employed who contributed to the system are generally entitled to unemployment compensation. The law on unemployment insurance and employment stimulation, which entered into force in March 2002, introduced a uniform unemployment indemnity of 60 percent of the national minimum wage, irrespective of individuals’ previous wages. Depending on the duration of past contributions, unemployed can receive the benefits between 6-12 months, after which they may benefit from the more general minimum income scheme. This generally entails a further significant drop in revenues. For instance, the allowance for a single person under this scheme will amount to about 30 percent of the minimum wage as of January 2003. Overall, the system leads to rather low effective replacement rates. This may constitute another obstacle to restructuring and privatization in the public sector, an issue that in the past the authorities have generally addressed by offering generous severance payments package.1

C. Labor Costs

13. Economy-wide wage levels appear moderate when compared to other transition economies (Table 1). In 2002, wage earners (excluding civil contracts) should get a modest 26 percent of GDP, and the full labor share in output can be estimated at 50-55 percent.2 Relatively low wages compared to productivity, as approximated by GDP per capita, provides Romania with a competitive edge in labor-intensive industries such as clothing, footwear or furniture. Moreover, ULC-based indicators of external competitiveness have stayed flat or even slightly improved in recent years, thanks to productivity increases and despite an appreciation of die (CPI-based) real effective exchange rate (Figure 7).

Table 1.

Wages in Selected Transition Economies (2000-01)

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Source: EBRD and Fund staff estimates
Figure 7:
Figure 7:

Real Effective Exchange Rate 3-month moving average, 1996-2002.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

Source: Romanian authorities and Fund staff estimates.

14. Meanwhile, social security contributions are excessive with an overall rate of 57 percent in 2002. Payroll taxes were increased in the late 1990s in the hope of raising revenues. In fact, these hikes have shrunk the collection base through the expansion of informal activities and the widespread practice of under-declaring wage payments. This heavy fiscal burden lowers labor demand and curbs incentives to reward the most efficient workers. The authorities are aware of the problem and, following a 3 percentage points reduction of the rate in 2002, will cut it by another 5 percentage points in January 2003, to reach 52.5 percent.3 Further cuts will be necessary in the future, albeit gradual to maintain revenues at an acceptable level.

15. Public sector wages are generally higher than in the private sector, entailing budgetary costs and strong resistance to restructuring in SOEs. Admittedly, part of the premium on public sector wages might be justified by specialized skills in industrial processes, for example in the energy sector. Besides, as noted above, private employers tend to under-report wage payments. However, it is questionable that wage disparities truly reflect productivity differences, even within the public sector (Figure 8). A plausible alternative explanation is that powerful unions, particularly in public utilities, are successful in rent-extraction. Supporting this hypothesis is the fact that besides higher initial levels, wage increases also tend to be higher in SOEs than in the rest of the economy (Figure 9). Linking wage growth to profitability, presence of arrears and productivity growth is still in infancy and is not institutionally well-established.

Figure 8:
Figure 8:

Monthly Net Average Wage in the Public Sector Jun-Sep 2002 average in thousand lei.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

Figure 9:
Figure 9:

Net Real Wage Growth 12 -month in present, Jan 2001 - Sep 2002.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

16. Future increases in the minimum wage will need to be weighed against the necessities of preserving employment and maintaining Romania’s comparative advantage. At about 30 percent of the average wage in 2002, the minimum wage appears relatively low and non-binding for most of the workforce. However, the recent decision to raise it by about 43 percent in January 2003 will likely fuel across-the-board wage demands, particularly in the public sector, and thus put at risk macroeconomic stabilization. What is more, further increases would quickly threaten the profitability of consumer goods industries, a key driver of Romania’s recent growth. Indeed, average wages in sectors such as textiles or trade barely exceed the new minimum wage (Figure 10).

Figure 10:
Figure 10:

Monthly Gross Average Wage in Selected Economic Sectors Jan-Aug 1002 average in thousand lei.

Citation: IMF Staff Country Reports 2003, 012; 10.5089/9781451832785.002.A003

17. The case for moving cautiously with minimum wage increases in the future is made stronger by the planned conversion of civil contracts into regular part-time jobs. The popularity of these contracts points to the need for flexible wage arrangements for some segments of the workforce.

D. Conclusions

18. The performance of the labor market must be improved to sustain the current reform momentum. The recent stabilization of aggregate employment and the growth spur in some labor-intensive sectors are encouraging signs. Sound macroeconomic and labor market policies will need to be implemented to complete the reallocation of labor across sectors and decisively boost the creation of private sector jobs. These include:

  • Consolidate macroeconomic stabilization, so as to avoid boom and bust cycles damaging to jobs and productive investments. It will also be important to prevent a too fast real appreciation of the exchange rate, in order to preserve external competitiveness and fully reap the benefits of Romania’s comparative advantages

  • Place wage bill setting in the public sector on a sound and lasting footing. In SOEs in particular, wage and employment decisions should be more tightly linked to economic performance and productivity. Increases in public wages as well as the minimum wage should take into account expected inflation and potential spillover effects to private wages.

  • Encourage the creation of private jobs in the formal sector. Further reductions in social security taxes are required in the medium-run, in line with improvements in tax administration. At the same time, the authorities should refrain from introducing too cumbersome employment regulations, particularly in the areas of hiring and firing and labor conflicts.

  • Favor labor market policies geared toward successful job search. For instance, large layoffs due to necessary restructuring are as a rule better addressed by efficient retraining than by sheer severance payments. In a similar vein, the education curriculum may also need to be adapted to promote skills often quoted as relatively scarce in Romania, e.g., marketing expertise.

  • Further improve the business environment. A range of actions is needed in this regard, including cutting on red tape, streamlining the tax system, speeding up the privatization process and lifting the remaining barriers to enterprise creation.

STATISTICAL APPENDIX

Table 1.

Romania: GDP by Origin, 1993-2001

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Source: National Institute of Statistics. ESA 79 methodology in 1993-97, ESA 95 methodology in 1998-2001.

Provisional data.

Table 2.

Romania: GDP by Expenditure, 1993-2001

(In percent)

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Source: Notional Institute of Statistics. ESA 79 methodology in 1993-97 and ESA 95 methodology in 1998-2001.

Provisional data.

Table 3.

Romania: Investment by Sector, 1993 - 2000

(In billions of lei at current prices)

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Source: National Institute of Statistics.
Table 4.

Romania: Saving-Investment Balance, 1993-2001

(Current prices)

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Sources: National Institute of Statistics; and Fund staff estimates.

provisional data

Table 5.

Romania: Employment in Agriculture (Including Self-Employed), 1993-2000

(In thousands of persons, end of year)

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Sources: National Institute of Statistics.
Table 6.

Romania: Distribution of Land Ownership, 1993-2002

(In thousands of hectares)

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Source: Ministry of Public Administration, National Office for Cadastre, Geodesy and Cartography.

September 2002.

Out of 9,200 hectares of land covered by the Land Law.

Table 7.

Romania: Output of Main Agricultural Products, 1993-2001

(In thousands of tons, unless otherwise indicated)

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Source: National Institute of Statistics.
Table 8.

Romania: Industrial Production Index, 1993-20021/

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Source: National Institute of Statistics.

Series corrected for number of hours worked, hut not seasonally adjusted.

1993-1997 based on 1991 shares

1998-2000 based on 1995 shares.

2001-2002 based on 1998 shares.

Table 9.

Romania: Number of Employees by Sector and Type of Ownership, 1995-2001 1/

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Source: National Institute of Statistics.

Excludes the self employed.

Distribution by sector of private employees.

Table 10.

Romania: Enterprise Payment Arrears, 1995 - 2001

(percentage of GDP)

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Sources: Romanian Ministry Finance and Fund staff estimates.
Table 11.

Romania; Average Monthly Nominal and Real Wages, 1993-2002

(October 1990=100)

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Sources: Data provided by the Romanian authorities; and Fund staff calculations.

Net of taxes and social security contribution