October 13 (SeeNews) - Romania's real economic growth is expected to quicken to 4.5% in 2016 driven by private consumption, before slowing down to 3.2% in 2017, Erste Group analysts said on Thursday.
Budget deficit is expected to reach almost 3% of GDP, the analysts said, confirming their previous projection made in August.
They also maintained their previous forecast that Romania's central bank, BNR, will keep its key rate on hold in 2016 and 2017.
In a CEE Insights report in August, Erste analysts cut their 2017 growth estimate to 3.4% from 3.6%. Now, 2017 GDP growth is seen slowing down to 3.2%, as the fiscal policy might be less supportive for growth.
"External risks such as Brexit and political turmoil in Turkey, Romania's sixth major trading partner, could also weigh on 2017 GDP growth," Erste said in a macroeconomic outlook report. "Keeping the expanding budget deficit under control in 2016 and 2017, despite broad fiscal easing and a costlier paycheck in the public sector, is key to preserving investor confidence."
Romania's GDP grew 3.8% in 2015, fuelled by domestic demand and higher investments and private consumption, which were backed by growing wages, low interest rates and falling prices.
Due to broad fiscal easing and higher wages in the public sector enforced by the government in 2015 and 2016, the budget deficit could soar near 3% of GDP in 2016, in parallel with a spike in the structural deficit to around 3%, as Romania's economy is seen growing at its potential rate, the report reads.
"With Romania being one of the poorest tax collectors in the European Union, the budget deficit might continue to swell in 2017 and thereafter in the absence of proper remedies," the analysts noted.
Erste said that the election year could also complicate things even more, as the technocratic cabinet has already faced pressure for additional pay rises from various professional groups.
On the monetary policy front, Erste expects the Romanian central bank to hold its key rate at 1.75% in 2016 and 2017.
"For the time being, we maintain our view of no key rate changes for the remainder of this year and next year. The first 25 basis points key rate hike is expected to be delivered in the first quarter of 2018," Erste analysts said.
BNR's monetary policy rate has stayed at 1.75% since May 2015 following a cut from 2.0%.
Romania's annual consumer price deflation accelerated to 0.6% in September from 0.2% in August, influenced by the VAT cut to 20% from 24% from the beginning of 2016.
Annual deflation is likely to persist until end- 2016 before a turnaround towards the BNR inflation target of 2.5% in 2017, Erste analysts said.
For end-2016, Erste forecasts negative inflation of 0.2%, while for end-2017, it expects a 1.7% rise in consumer prices.
Erste sees the Romanian leu mostly trading in a range of 4.4-4.6 in 2016, but it does not rule out volatility, especially once the UK triggers Article 50 to start the formal process of leaving the EU. Uncertainty linked to geopolitical tensions remains another key source of risk to the outlook, the analysts said.
Analysts also expect yields to stay close to the current levels in the following months, as the market is awash with liquidity and there is an increased interest in local currency-denominated bonds. However, investor sentiment could turn sour quite suddenly, as higher funding needs of the local government could lead to bouts of higher volatility in the local fixed-income market, Erste analysts warned.
"For the time being, we think that the technocratic cabinet will do whatever it takes to keep the budget deficit in line with the Maastricht criteria this year, but a prospective deterioration of public finances next year could add upward pressure on local currency yields," the report reads.