March 7 (SeeNews) - Romania's real economic growth is expected to quicken to 4.3% in 2017 driven by private consumption, before slowing down to 2.8% in 2018, Erste Group analysts said on Tuesday.
In a previous forecast in December, Erste saw Romania's real economic growth at 3.2% in 2017 and 3.3% in 2018.
"We foresee 2017 economic growth at 4.3%, with a key role played by retail sales and services. 2018 could bring deceleration of the economic growth towards 2.8% due to less traction from the fiscal stimulus," Erste Bank analysts said in their latest macroeconomic outlook report on Romania.
However, the risks are mounting, with the budget facing difficulties to maintain a manageable deficit and Romania's external balance facing rapid deterioration, analysts added.
The bank expects budget deficit to reach 3.5% of GDP in 2017 from a previous forecast of 3%.
Erste added that in order to rein in public deficit, the government will need to take a more neutral if not outright restrictive stance on fiscal policy, which will constrain the consumption boom's resilience going into next year. Hence, export and EU funds absorption performance will be key elements for a sustainable growth path, the report showed.
Trade, services and industrial output were important drivers that shored up economic growth in the last quarter of 2016, when it accelerated to an annual 4.7%, from 4.3% in the previous quarter.
In 2016, Romania's economy expanded by 4.8% year-on-year compared to a revised growth rate of 3.9% in 2015.
The orientation of fiscal policy in 2017 and 2018 is paramount for Romania's macroeconomic stability, Erste's analysts noted.
They also pointed out that in February, the European Commission asked the government to present a set of measures by April for complying with fiscal obligations set by the Stability and Growth Pact.
On the monetary policy front, Erste expects the Romanian central bank BNR to hold its key rate at 1.75% in 2017.
"The case for a rate hike could strengthen in 2018 due to the BNR's outlook for a significant positive output gap, but much depends on the orientation of fiscal policy. If fiscal policy turns neutral or restrictive in 2018, there will be significantly less need for a hike in the key rate. Meanwhile, we do not rule out an increase in the deposit facility rate with a view to bringing short-term money market rates closer to the key rate," the analysts said.
BNR's monetary policy rate has stayed at 1.75% since May 2015, following a cut from 2.0%.
Romania swung to annual inflation of 0.1% in January following 0.5% deflation in December. In its latest inflation report issued in February, Romania's central bank, BNR, lowered its 2017 inflation forecast to 1.7% from previously projected 2.1%.
For end-2017, Erste forecasts an inflation of 1.4%, while for end-2018 it expects a 2.7% rise in consumer prices.
The bank sees a slight depreciation outlook for the leu in the coming quarters due to domestic risks to the fiscal deficit and c/a deficit widening, but expects that the external risk backdrop will be the trigger to any significant directional move in the exchange rate.
The Romanian leu mostly trading in a range of 4.57-4.62 per euro in 2017. "Our forecast assumes that the BNR will be somewhat less keen on fighting 2-3% depreciation, which runs counter to the current mantra of a stable RON, which is why we see risks to our forecast as tilted to the downside".
The analysts also noted that ten-year bond yields rose almost 30 basis points between the end of December and the beginning of March, with a short bout of volatility in late-January in the context of street protests against the government.
Abundant bank liquidity as a result of a significant jump in budget spending in December supported investors' auction demand for short-term debt instruments held by the finance ministry.
While excess liquidity should persist, Erste analysts said they expect that even its marginal decline on top of the higher local risk premium and some BNR tightening should prove enough for an upward trajectory of the whole yield curve.
The bank has revised its end-year average 10-year yield forecast to 4.30% in 2017 from a previous 3.68%.
"On top of local risks (fiscal and C/A slippages), external risks are also tilted towards higher yields, both on account of the "reflation" theme and on political risks arising from the elections calendar in Europe. This should put more risk at the back end of the curve, where excess liquidity is of little help," the analysts said.