Romania-Seventh Review Under the Stand-By Arrangement, Cancellation of Current Stand-By Arrangement, and Request for a New Stand-By Arrangement-Staff Report; Supplement on the Assessment of the Risks to the Fund and the Fund's Liquidity Position; Supplementary Information; Press Release on the Executive Board Discussion; Statement by the Executive Director and the Senior Advisor to the Executive Director for Romania

Romania’s external position continues to improve. Inflation peaked in December 2010, and is now likely to decline. Financial market stress has remained relatively low in recent months. The current account deficit improved from 13½ percent of GDP in 2007 to about 4¼ percent of GDP in 2010, driven by a strong shrinking trade deficit. Significant progress has been made under the Stand-By Arrangement (SBA) in achieving fiscal consolidation and safeguarding the financial sector. Most performance criteria and structural benchmarks were met throughout the program.


Romania’s external position continues to improve. Inflation peaked in December 2010, and is now likely to decline. Financial market stress has remained relatively low in recent months. The current account deficit improved from 13½ percent of GDP in 2007 to about 4¼ percent of GDP in 2010, driven by a strong shrinking trade deficit. Significant progress has been made under the Stand-By Arrangement (SBA) in achieving fiscal consolidation and safeguarding the financial sector. Most performance criteria and structural benchmarks were met throughout the program.

I. Introduction and Summary

1. The economy has stabilized and growth is now resuming. Data for Q4 2010 and recent indicators suggest that growth has restarted and will slowly gain momentum in 2011 to around 1½ percent. Growth is expected to accelerate in 2012, reaching 4–4½ percent. Inflation, driven by high food and fuel prices and the recent VAT hike, likely peaked at end-2010, and is expected to return to the central bank’s target range (3 percent ± 1 ppt).

2. The program will end broadly on track. Performance criteria for the seventh review have been met except for the criterion on government arrears, (for which a waiver was already granted). While progress has been made in eliminating central government arrears, substantial arrears continue in local governments. The indicative targets on loss-making state-owned enterprises (SOEs) and current spending were missed. The structural benchmark regarding tax administration for high net wealth individuals was met, and that on parliamentary ratification of amendments to the bank resolution framework was partially met, as some amendments were ratified, but ratification is still pending in parliament for others. The structural benchmark for mid-March regarding integrating accounting reporting with the Treasury payment system was met, but there will be a delay in amending legislation to permit the use of the deposit guarantee fund to facilitate bank restructuring.

3. The successor SBA will focus on boosting potential growth through structural reforms. Structural deficiencies in key economic areas weigh heavily on economic growth. Improved efficiency of the public sector will reduce bureaucratic barriers to economic efficiency and will increase the absorption of EU structural funds to boost capital spending to improve the country’s infrastructure. The new program also aims at deep-rooted reforms in the energy and transport sectors, including pricing reforms, improved regulation, and the restructuring and privatization of energy and transport SOEs. Fund and EU precautionary support will reassure private markets and provide a cushion against future shocks, should they materialize.

4. Fiscal adjustment will continue. The end-December fiscal balance target was met with a substantial margin, reflecting higher-than-expected tax revenues. The difficult fiscal measures enacted in 2010, complemented with continued prudent expenditure policies, put the fiscal cash deficit targets of 4.4 percent in 2011 and 3.0 percent in 2012 well within reach. However, continued efforts to improve tax collections, tackle expenditure pressures (particularly in the health sector), and reduce arrears will be crucial to sustained deficit reduction. As part of ongoing tax administration improvements, the government will pass an ordinance on indirect audit methods (¶17) as a prior action for the new SBA.

5. The banking sector has weathered the crisis well, remaining well-capitalized and liquid. Non-performing loans continue to increase, but at a declining pace and are expected to peak in mid-2011. Banks remain well-capitalized, with an average capital adequacy ratio of 14.7 percent and all banks above 11 percent at end-2010. However, the continued

6. vigilance is required, as performance will vary significantly across banks. In March, the authorities will discuss an extension of the European Bank Coordination Initiative (EBCI) with the largest foreign-owned banks, with a view toward continuing its stabilizing effects.

II. Recent Developments

7. The Romanian economy is beginning to recover. Recent data show slight positive growth in Q4 2010, while revisions to previous quarters have produced a better outturn for the year than previously expected (-1.3 percent). Strong export growth continues and industrial production remains robust; however, weak retail sales persist. Registered unemployment has decreased, but mainly due to shrinking labor force participation rather than job creation.

8. Inflation peaked in December 2010, and is now likely to decline. Headline CPI inflation reached 8.0 percent in December before dropping to 7.0 percent in January. The initial pass-through of the 5 percentage points VAT hike in July 2010 was roughly as expected, but inflation was boosted by increased fuel and food prices (reflecting higher world prices).


Industrial Production

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001


Private consumption and retail trade

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Source: Haver, Staff Estimates.

9. Financial market stress has remained relatively low in recent months. The CDS spread for sovereign debt has narrowed by around 100 basis points since September, now below several other EU countries. Romanian equity markets have recovered since their June trough. Thus far, the turbulence in the Euro area periphery has had little direct impact on Romania, though risks remain. Since summer 2010, the leu has remained relatively stable, obviating the need for significant central bank intervention.


National Currency per Euro

(July 1, 2008 = 100)

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001


CDS, 5-years

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Source: Haver, Bloomberg: Staff Estimates.

10. Romania’s external position continues to improve. The current account deficit improved from 13½ percent of GDP in 2007 to around 4¼ percent of GDP in 2010, driven by a strong shrinking trade deficit. Exports are booming, driven by the manufacturing sector. On the transfers side, workers’ remittances have shrunk due to the recession and high unemployment in host economies. Foreign direct investment (FDI) continued to be weak, financing less than half of the current account deficit, while official financing remained the major source of inflows. The depreciation of the leu experienced since mid-2007 has produced an improvement of roughly 15 percent in competitiveness, as measured by the Real Effective Exchange Rate.


Exports (SA), Imports (SA), Trade balance 12m

(billion Euros)

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Source: Haver, Staff Estimates.

III. Performance under the Current Program

11. Significant progress has been made under the SBA in achieving fiscal consolidation and safeguarding the financial sector. While the 2009–10 recession turned out to be deeper and more prolonged than originally anticipated, important adjustment efforts under the SBA have positioned Romania to generate sustainable growth in the coming years (Box 1). A structural fiscal deficit of almost 9 percent of GDP in 2008 was halved by 2010, and the government finances are broadly on track toward respecting the 3 percent of GDP Maastricht deficit limit in 2012. Financial sector measures helped maintain adequate capitalization of banks and liquidity in domestic markets, ensuring banking sector stability. Excessive capital outflows were avoided (in part reflecting the EBCI), and an orderly adjustment of the current account was made possible without undue exchange rate volatility. Structural reforms in tax administration, pensions, public wages and employment, and social benefits will ease fiscal pressures in the medium-term, while improving public sector efficiency and setting the stage for more widespread improvements in the business climate.

12. Most performance criteria and structural benchmarks were met throughout the program, including for the seventh and final review. The performance criteria on government guarantees, external arrears, and net foreign assets were consistently met throughout the program, including for the seventh review. The fiscal deficit target was observed for all but the fourth program review, including by a significant margin for end-December 2010. In contrast, the general government arrears criterion was missed in all reviews.1 While the central government and social security sector payment arrears have fallen significantly during the program (now under 0.05 percent of GDP), arrears from local governments continue to pose a challenge. Inflation has remained within the inner band of the inflation consultation mechanism throughout the program, though the band was adjusted after the VAT increase in mid-2010. Structural benchmarks, focused primarily on fiscal and financial sector reforms, have generally been met. For the seventh review, the indicative target on current spending was missed, as the authorities used some of the overperformance on revenues to allow for higher discretionary outlays. The indicative target on the operating balances of selected SOEs was also missed, which is symptomatic of the need for more profound SOE reforms under the new program.

Major Measures Under the SBA, 2009–11

The adjustment in the structural fiscal deficit between 2008 and 2011 totaled some 7 percentage points of GDP, with additional savings expected in future years from public wage and pension reforms.

On the expenditure side, main measures included:

  • Streamlined public employment (by over 100,000).

  • A public sector wage cut of 25 percent (partly offset by 15 percent increase in 2011).

  • Elimination of holiday bonuses and the 13th salary.

  • Inefficient social benefits cut (15 percent) and reinforced social inspections.

  • Central government arrears reduced to near zero.

On the revenue side, measures included:

  • Broadening the tax base and improved tax collection.

  • Hikes in VAT rates (from 19 to 24 percent) and excise tax rates.

  • A rise in social security contribution rates (3 ppts.).

Structural reforms included:

  • A major pension reform was approved to increase retirement ages, move indexation from wages to inflation, and reduce incentives for early retirement, while continuing to build the second pension pillar.

  • The public wage system was reformed, harmonizing wages across ministries and significantly reducing the role of bonuses in compensation.

  • Social benefits were reformed—including unemployment insurance, social assistance programs, and maternity benefits—to improve efficiency while reducing costs.

  • Major health sector reforms were begun to improve efficiency, cost recovery, and financial performance.

  • Legislation was approved mitigating fiscal risks from local governments.

  • A Fiscal Responsibility Law was introduced to improve medium term budget framework and budget execution.

  • A Fiscal Council was established as an independent body to monitor fiscal policy.

In the financial sector:

  • Support from parent banking groups was secured through the EBCI.

  • Continued proactive and intensive supervision by the NBR helped to avoid significant bank difficulties.

  • The bank resolution framework was significantly enhanced.

  • The funding of the deposit guarantee scheme was strengthened.

IV. Elements of the New Program

A. Overall Program Objectives

13. The proposed follow-up program aims to provide precautionary support against possible future economic shocks, while assisting Romania in continuing its economic adjustment. Building on the achievements of the current SBA, the key objectives of the new program are to: (i) continue the fiscal adjustment process while attacking problems of revenue and expenditure efficiency, and arrears; (ii) boost growth potential through structural reforms and improved flexibility of the economy, which will allow for continued competitiveness as Romania prepares for eventual euro area entry; and (iii) continue fostering confidence, facilitating improved private capital flows, by improving policy stability and the business climate.

14. Fiscal policy will be anchored on the authorities’ commitment to reducing the deficit to within 3 percent of GDP by 2012. Adjustment measures already taken should deliver the targeted 4.4 percent of GDP cash deficit by 2011, but further action may be needed in 2012. Fiscal reforms will concentrate on remaining problem areas, including health care and capital expenditure reforms, further efforts to tackle arrears, and improvements in tax administration and simplification. These reforms should also boost growth by reducing bureaucracy and boosting absorption of EU funds.

15. Structural reforms aim to eliminate barriers to growth while boosting investment and job creation. The new program will include a comprehensive SOE reform strategy focusing particularly on the energy and transport sectors, improving regulators’ effectiveness, and opening markets (reforming administered prices), while protecting vulnerable members of society. The authorities will also pursue their efforts at labor market reforms and social benefits reforms, crucial to job creation and maintaining Romania’s competitiveness.

B. Macroeconomic Framework and Risks

16. The new program is based on a forecast of a gradual return to growth in 2011–12, abating inflationary pressures, and a stable current account.

  • Growth. GDP growth is expected to pick up during 2011, reaching around 1½ percent as both incomes and employment gradually recover. Growth will accelerate to 4–4½ percent in 2012 and remain there in the medium-term, with domestic demand increasingly becoming the main driver, supported by improved EU funds absorption. The contribution from external demand will slow in line with moderate growth of export markets. Increased investor confidence, coupled with planned privatization under the program will bring renewed FDI and banking inflows.

  • Inflation. Staff expects that CPI inflation will gradually return to the NBR’s target band in the second half of 2011 as pressures from the recent VAT hike and rising food and fuel prices gradually subside. For 2012, further disinflation toward 3 percent is expected.

  • External position. The current account deficit is projected to stabilize at around 4–5 percent of GDP in 2011–12. Export growth will moderate in 2011, leading to a slight worsening of the trade balance. Private capital inflows are expected to improve over the program period, with FDI rebounding from recession lows and portfolio inflows also recovering. Under staff’s baseline scenario, no new financing gap is envisaged, consistent with the new program’s precautionary nature.

  • Risks. Growth and balance of payments risks are largely balanced, but inflation risks are tilted to the upside. On the downside, domestic political tensions could lead to policy reversals, dampening confidence, and weakening performance; a weaker-than- expected recovery in Western Europe or spillovers from the ongoing turbulence in the euro area periphery could dampen exports or raise risk premia and affect capital flows to Romania. On the upside, a faster-than-expected recovery of consumer confidence and domestic demand or improved EU funds absorption and rapid implementation of structural reforms could catalyze faster growth and prompt a higher current account deficit funded by greater capital inflows. Prospects of reaching the inflation target could be adversely affected by a continued resurgence in world food and energy prices, while needed increases in administered prices may also boost inflation.

Romania: Macroeconomic Outlook

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Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Source: Haver; Staff estimates.

C. Fiscal Policies

17. Current fiscal policy is broadly appropriate for bringing the fiscal deficit to a sustainable level during the new program period. The full-year effect of the July 2010 fiscal adjustment package along with continued expenditure restraint should help reach the agreed 2011 cash deficit target of 4.4 percent of GDP (from 7.3 percent of GDP in 2009). Key measures include an extension of the pension freeze, continued public employment reductions, elimination of stimulente funds (structural benchmark, end-June), expanding the base of healthcare contributions to more pensioners, and replacing heating subsidies with targeted assistance, and further savings expected from health sector (LOI ¶14–15) and education reforms. In the course of 2011, some loss-making SOEs will be brought under the definition of the general government annually adding around ½ percent of GDP to the deficit.2 For 2012, renewed economic growth combined with prudent expenditure policies would bring the cash deficit to near 3 percent of GDP, though some additional measures may be needed. The cash deficit target may have to be modified in 2011 to partly accommodate the change in definition of the general government, however, in 2012 additional measures may be required to bring the accrual-based deficit within the Maastricht limit.

18. Despite the progress achieved, there are still significant fiscal problems to be addressed in the follow-up arrangement. On the revenue side, Romania’s crisis stabilization has relied to a significant degree on raising tax rates to relatively high levels, while the efficiency of tax collection remains very low. The general VAT rate now stands at 24 percent and social contributions are over 40 percent of wages. The simplicity and ease of payment of the tax system are also substandard.3 Under the new program, the authorities will continue tax administration reforms (advised by FAD) and will undertake a comprehensive review of the tax system with a view towards a revenue-neutral tax simplification. Following removal of multiple tax forms, options to reduce frequency of filing and create a unified tax declaration are being examined, as well as expansion of e-filing. A government decision on indirect audit methods will be passed (prior action) and a strategy and action plan developed for incorporating these methods into compliance functions.4 Allocation of resources towards medium and large taxpayers will be improved by requesting the EU Council of Ministers for an increased VAT mandatory threshold of €50,000 while instituting simplified taxation for taxpayers under the threshold (structural benchmark, end-June 2011).

19. On the expenditure side, improving expenditure efficiency and implementing a comprehensive solution to payments arrears are priorities. By end-2010, central government and social security sector arrears had declined to near zero. On the local level, arrears have fallen below 0.2 percent of GDP and should continue declining with new legislation (effective January 2011) tightening local government financial management. To assess their full extent, a stocktaking of arrears and unpaid bills as of end-2010 will be conducted for the entire general government as well as SOEs and an action plan prepared by end-April 2011 (structural benchmark), after which payments will not be authorized for unregistered bills.5 Central government and social security arrears will be fully eliminated during the program. To avoid future general government arrears, the authorities will also implement further health sector reforms (¶19) to reduce overdue payments and bring spending into line with budgetary allocations and complete on-going integration of accounting and Treasury payment systems (LOI ¶10) to better control expenditure commitments. During the new program, the deadline for payments will be reduced from the current 90 days to, in most cases, 30 days in line with new EU requirements. More broadly, the new program will make use of the recent functional expenditure reviews conducted by the World Bank (with EU support) to develop measures to improve expenditure efficiency. Beyond the general government, SOE reforms (¶24-25) will include comprehensive plans to reduce their arrears (via payments, liquidations, use of privatization proceeds, and/or debt restructuring).


General Government Arrears and Unpaid Bills

(bn RON)

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Source: Romania Authorities; Staff Estimates.

20. Health care reforms will be critical to safeguarding fiscal consolidation. Significant spending pressures have been generated in recent years by a fundamental mismatch between the entitlements for medical care and the resources available from the budget, contributing to arrears accumulation. Measures under the new program include: reforming the government-insured benefits package to exclude coverage of costly nonessential services; introducing a “money follows the patient” mechanism; using generic rather than brand drugs wherever possible; and reducing excess public sector hospital beds with a view to reaching the EU average by 2013. The authorities are also advancing on the introduction of national health cards, electronic patient records, and electronic prescriptions.

21. Despite significant public employment reforms under the current program, additional measures are needed. Public employment shrank from 1.4 to 1.3 million people during 2010, with the largest declines in local governments and the education sector, as standard norms for local government personnel were implemented and student- teacher ratios moved closer to the EU average. However, further employment rationalization in the context of recent World Bank functional reviews is needed, especially given that the new unified wage scheme will only be fully effective over time.


Public Sector Employment

(in Millions, end of period)

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Source: Minister of Public Finance; Staff Estimates.

22. Public investment policies require significant reforms to increase efficiency and enhance the absorption of EU structural funds. Romania spends a large share of its GDP on public investment (averaging over 6 percent of GDP in recent years), but capital spending has been plagued by inefficiency and under 3 percent of the €19 billion in available EU structural funds have been utilized. To better coordinate EU funds absorption, the EU funds unit will be moved from the Ministry of Public Finance (MOPF) to the Prime Minister’s office. Measures to improve capital budgeting and project implementation (LOI ¶13) include comprehensive review, evaluation, and prioritization of projects within the existing investment portfolio; focusing on those where funding can be fully secured within a medium- term horizon (e.g., 3–5 years); and discontinuing low priority and non-performing projects. A final report and action plan will be produced by end-September 2011 (structural benchmark).

23. The fiscal financing strategy will focus on moving away from multilateral budgetary support to full reliance on financial markets. The recently prepared debt management strategy aims at extending the maturity of domestic debt, building the yield curve, and consolidating financial buffers. The authorities have made progress in recent months in building the domestic yield curve, and their euro medium-term notes program for regular debt financing in the Eurobond market is underway. Financing buffers will be brought to around four months of financing needs in 2011 and maintained at that level. A formal review of the government’s debt management strategy, with the assistance of IMF staff, the EC, and the World Bank, will also be conducted in 2011.

D. Structural Reforms

State-Owned Enterprises

24. SOEs constitute a significant fiscal burden and constrain private sector growth (Box 2). Romania’s post-communist privatization process has stalled in recent years, leaving inefficient state firms dominant in key economic sectors, such as energy and transportation. SOEs receive budgetary subsidies equivalent to around ½ percent of GDP annually and many generate considerable operating losses.6 SOEs have accumulated arrears of around 4 percent of GDP to private sector firms and other public sector entities, damaging their financial health, reducing investment, and job creation. Moreover, inefficient operations and poor quality service of SOEs increase operating costs of private firms and create a barrier to augmenting exports and investments.

25. To generate higher sustainable growth, the new program aims at deep-rooted SOE reform (LOI ¶23). Action plans for key firms will classify them as in line for liquidation, privatization, or restructuring, and will contain concrete arrears-reducing strategies (structural benchmark, end-April 2011). Major financial and operational indicators of all SOEs (at central and local government levels) will be regularly reported to the MOPF. Governance issues will be addressed via regular independent external audits and by moving financial control of SOEs from line ministries to the MOPF.

26. Reforms will focus on the energy and transport sectors, where regulatory and pricing issues, combined with the dominance of SOEs, drag down economic growth. The energy and transport sectors include most of the largest SOEs (including the largest loss-makers and those with the largest arrears). Moreover, these sectors constitute key bottlenecks for accelerating GDP growth and for EU funds absorption.

  • In the energy sector, the authorities will restore the energy regulator’s full operational and financial autonomy, and will phase out regulated prices in electricity and gas, while protecting vulnerable groups. Minority and/or strategic private investors will be brought into key energy firms, including Transelectrica, Transgaz, Romgaz, and Petrom,7 as well as firms slated to be included in the two “national champion” companies (whose creation, in staff’s view would compromise the viability of “good” energy assets by combining them with undesirable ones).8 Unprofitable coal companies will also continue to be downsized, with viable assets spun off. A similar strategy of separating viable assets will be followed for Termoelectrica.

  • In the transport sector, passenger railway and infrastructure service will be restructured with reductions in coverage (closure of 1000 kms. of unfrequented railway lines by end-August), competitive tendering for public service and infrastructure maintenance, and a significant decrease in losses and arrears. Passenger railway and the Bucharest metro system are scheduled to improve cost recovery through higher tariffs. Strategic investors will be sought for the rail freight company (CFR Marfa) and the national air carrier (Tarom) (LOI ¶29).

State-Owned Enterprises in Romania: Taking Stock

The list of SOEs in Romania currently includes majority stakes in 154 companies, numerous minority stakes as well as around 25 autonomous institutions at the central government level alone. In addition, the portfolio of the privatization agency, AVAS, comprises 19 majority and about 350 minority stakes.

Detailed information is only available for the 154 companies. They employ more than 250,000 people, representing about 6 percent of all employees. The financial situation of these companies continues to deteriorate. Expenditures have fallen little despite cost-cutting measures, including a reduction of 28,000 employees since end-2008. In 2010, revenues increased, mainly based on increasing tariffs, including the installation of an electronic road toll system as well as higher tariffs for passenger rail. In the first three quarters of 2010, subsidies paid to these companies increased to around ½ percent of GDP. In addition, the stock of arrears has reached more than 4 percent of GDP.

Out of the 154 companies, 83 are held by the Ministry of Economy (especially in the energy sector) and 36 by the Ministry of Transport and Infrastructure. Operating losses are concentrated in the Ministry of Transport, Ministry of Agriculture, and Ministry of Communication. Subsidies are largely paid to companies under the control of the Ministry of Transport, Ministry of Economy, and Ministry of Agriculture. Basically, the entire stock of arrears has been accumulated by companies under the control of the Ministry of Economy (57 percent) and Ministry of Transport (42 percent).


154 SOEs: Arrears and personnel, 2008–10

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001


154 SOEs: Revenues, expenditures, subsidies & profit, 2008–10, bn. lei

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Other reforms

27. Social benefits and labor market reform will also play an important role in fiscal consolidation and improving growth. Social benefits reforms (Box 1) have already yielded significant fiscal savings and are expected to improve incentives for work while providing support for the neediest. The authorities are nearing completing of a package of labor reforms to improve labor flexibility, increase labor force participation, and enhancing the representativity of collective bargaining while making the wage-setting process more flexible and allow for a better orientation of wage growth on productivity developments.

E. Financial Sector Policies

28. Growth in non-performing loans slowed significantly in recent months and the banking sector remains liquid and well capitalized. Non-performing loans, expected to peak in mid-2011, grew at a slower pace in the last quarter—rising to 11.9 percent9 at end-December. Profitability turned negative by mid-2010, but the banking system retains adequate buffers with an average capital adequacy ratio of 14.7 percent at the end of 2010, while all banks remained above 11 percent (compared to the statutory minimum of 8 percent). As the economic recovery gains traction and loan loss provisions stabilize over the first half of 2011, the banking sector as a whole is expected to return to profitability. The parents of the largest foreign subsidiaries maintained aggregate exposures under the EBCI of 98 percent at end-January 2011, well above the July 2010 commitment of 95 percent.

Romanian Banking System - Core Indicators

(in percent)

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Source: NBR.

Tier 1 capital/ total average net assets

Unadjusted exposure from loans and interest falling under “doubtful” and “loss” / total classified loans and interest, excluding off-balance sheet items.

Unadjusted exposure from loans classified as “loss” defined as past 90 days and/or initiation of legal preceeding/ total loans and interest, excluding off-balance sheet items.

Cash, sight and term deposits with banks plus government securities free of pledge/ total liabilities

29. Under the existing program, the authorities have undertaken significant reforms to strengthen the financial safety net. However, there have been some delays in a reform to enable the Deposit Guarantee Fund (DGF) to finance the new bank resolution and restructuring tools, which will be completed under the new program (now expected by end-June 2011). The NBR (in conjunction with the DGF) will also develop operating procedures and contingency plans for deploying the new resolution tools. The authorities will ensure that the DGF has ready access to liquidity to meet any potential shortfalls in funding and prepare joint procedures for deploying DGF funds in a bank resolution. The authorities will also review the DGF banking and the winding-up legislation to ensure their mutual consistency.

30. Significant reform is also underway on the regulatory front. Preparations have already begun to introduce International Financial Reporting Standards (IFRS) for the banking sector in 2012. By end-June 2011, the NBR will prepare proposals for prudential filters to allow for continued higher provisions to reflect the difficulties banks face in enforcing collateral in Romania. The NBR will continue to closely monitor credit conditions and assess the future evolution of NPLs and banks’ profitability, to identify any potential further capital needs at individual institutions. It will also take action as needed to address the risks of lending in foreign exchange to un-hedged borrowers. The authorities are committed to refrain from promoting legislative initiatives (such as the current draft of the personal insolvency law or proposals for the debt collecting law) which could undermine debt or discipline. The authorities will also ensure that the prudential treatment of debt for equity swaps does not result in a weakening of banks’ financial positions, such that the value of equity is fully deducted from their own funds of credit institutions and the revenues obtained by releasing loan-loss provisions due to these operations are not taxed.

31. The NBR will need to remain vigilant. Some small- and medium-sized banks with high cost ratios, rising loan impairments and lower than average provisions, will continue to incur losses. Further capital injections may be required from existing shareholders or new investors in some cases, while losses could be absorbed from existing buffers in other cases. In March, the NBR will discuss an extension of the EBCI agreement with the largest foreign banks with a view toward continuing the stabilizing effects of the agreement.

F. Monetary and Exchange Rate Policies

32. The central bank has paused its monetary policy easing, pending a clear signal that inflationary pressures are easing. After a 4 percentage point cumulative reduction in interest rates since early 2009, the NBR has left its key policy rate unchanged since July 2010 due to uncertainties associated with the VAT increase as well as food and fuel prices. The authorities believe that heightened vigilance will be needed to keep inflation expectations contained and stave off possible second-round inflationary effects. Reserve requirements have also remained unchanged since November 2009.10

33. Despite the NBR’s decision to pause further policy loosening, monetary conditions have moderated further, reflecting continued reductions in deposit and lending rates in the banking system. Lending rates, however, did not fall by as much, as banks raised lending margins to cover increased provisioning due to continued increases in non-performing loans (NPLs). This policy easing was facilitated by the heavy reliance of the NBR on the overnight standing facility for absorbing liquidity at a rate well below the policy rate, though in recent weeks this excess liquidity seems to be disappearing.11 The exchange rate has remained in a relatively narrow band (RON 4.1–4.3/€) in recent months, despite only modest NBR intervention in support of the currency. The real exchange rate assessment has not changed since the latest Article IV consultation (i.e., slight overvaluation).



Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

1/ Weighted average of the annual change in the 3-month interbank offer rate and the nominal effective exchange rate (at a ratio of 1.5 to 1)Source: Bloomberg; IFS; Staff Estimates.



(in percent)

Citation: IMF Staff Country Reports 2011, 080; 10.5089/9781455230075.002.A001

Source: National Bank of Romania; Haver.

34. The program’s NFA target contemplates a gradual increase over 2011 parallel to augmenting gross reserves, mainly due to official inflows, and a relatively modest improvement in 2012. This reserve accumulation should place the NBR in a position to effectively service the peak repayments to the Fund in 2013 while maintaining reserve coverage of at least 100 percent of annual short-term financial liabilities. A consultation clause is included in the program requiring that the authorities confer with staff if reserve losses exceed €2 billion in any 30 day period.12

Net Official Inflows

(millions of Euro)

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V. Program Modalities

A. Access

35. Romania is not expected to face actual balance of payments financing needs in 2011 and 2012, though financing risks remain. As described in ¶15, under staff’s assumptions, private and non-program public flows should fully cover the current account deficit once multilateral disbursements under the existing program are completed. FDI should cover close to half of the current account deficit, with renewed private portfolio and banking inflows covering the rest.

36. However, if downside financing and growth risks materialize, the authorities might need to draw under the new arrangement. Under staff’s stress scenario (Tables 78), higher perceived risks would reduce FDI and rollover rates on private sector external liabilities would drop below 100 percent as banks repatriate some resources (commitments under the EBCI will gradually decline) and corporations find less access to external financing.13 A weaker euro area recovery would also dampen exports. Economic growth would fall by a cumulative 3 percentage points in 2011–12 compared to the baseline. Lower capital inflows would require additional external financing of €5 billion, which would be covered by disbursements from the Fund and the EU.

Table 1.

Romania: Quantitative Program Targets for Seventh Review

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The December 2008 figure is a stock.

Performance criterion for January 2011 and indicative target for March 2011 are relative to December 2010 target.

Cumulative figure during calendar year (e.g. March 2011 figure is cumulative from January 1, 2011).

In accordance with TMU, the end-September and end-December program targets were adjusted from the original target of -28,200 and -34,650 by one-half of the revenue over-performance.

The target for March 2011 can be adjusted with higher or lower capital spending as defined in TMU.

Table 2.

Romania: Performance for Seventh Review

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Table 3.

Romania: Quantitative Program Targets for New Program

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The end-December 2010 figure is a stock.

Cumulative flows relative to end-December 2010 stock.

Cumulative figure during calendar year (e.g. March 2011 figure is cumulative from January 1, 2011).

The target for March 2011 can be adjusted with higher or lower capital spending as defined in TMU.

Table 4.

Romania: Conditionality for New Program

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Table 5.

Romania: Selected Economic and Social Indicators, 2007–12

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Sources: Romanian authorities; Fund staff estimates and projections; and World Development Indicators database.

Actual fiscal balance adjusted for the automatic effects of the business cycle.

Table 6:

Romania: Macroeconomic Framework, Current Policies, 2008–2016

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Sources: Romanian authorities; and Fund staff estimates and projections.

Actual fiscal balance adjusted for the automatic effects of internal imbalance (output gap) and external imbalance (absorption gap) on the fiscal position.

Table 7.

Romania: Balance of Payments, 2008–16

(In billions of euros, unless otherwise indicated)

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Sources: Romanian authorities; and Fund staff estimates and projections.

Includes IMF disbursement to the Treasury of €0.9 billion in 2009 and €1.2 billion in 2010, and issuance of €1 billion Eurobond included in the capital and financial account as noted in footnote 1.

Operational defition. Reflects the allocation of SDR 908.8 million that was made avaialable in two tranches in August and September 2009.