Romania’s widening budget deficits remain elevated with the new government’s commitment to a disciplined fiscal policy and growth-enhancing reforms vital for improving the economic and fiscal outlook, Scope Ratings said.
"A rapidly rising debt burden poses a risk to the medium-term sustainability of public finances without corrective action via a concrete resetting of fiscal policy," Scope Ratings analyst Levon Kameryan said in an analysis published by the ratings agency on Thursday. "The government should address the rigid budgetary structure and weak tax base to stabilise debt dynamics medium term."
Romania's government envisages a budget deficit of 8.2% of gross domestic products (GDP) on ESA standards for 2021, compared with an estimated 9.1% of GDP shortfall last year. Public debt is set to increase to nearly 55% of GDP in 2021 from around 35% of GDP in 2019.
Romania had significantly less fiscal space than other central and eastern European EU member countries when the Covid-19 crisis struck due to pro-cyclical fiscal policies of recent years. A small tax base – the country has the second lowest tax revenues-to-GDP ratio of the EU – and a high proportion of government spending on public-sector wages and social welfare limit available fiscal room. This indicates that medium-term fiscal consolidation will be protracted, Kameryan noted.
According to the ratings agency, the current coalition government led by the National Liberal Party, which enacted judicial reforms and anti-corruption framework during two minority governments since November 2019, is raising the country’s institutional credibility and political stability, which in turn could support investment and relations with the European Union.
The government introduced fiscal consolidation measures in the new budget, such as capping public-sector wages and reducing subsidies, whilst increasing investment spending by almost 16%. Favourable financing conditions and manageable government gross financing needs of around 11% of GDP in 2021 reduce immediate risks to debt sustainability, according to Scope.
The government suspended full implementation of a planned pension hike to 2023. Pensions increased by 14% last September, watered down from the originally planned 40% hike, expanding fiscal spending by around 0.8% of GDP in 2021. In the agency's view, if the full hike is ultimately executed absent counteracting fiscal measures, this would create substantial burden on the medium-run budget.
"In the 2021 budget, the government balances fiscal consolidation with the practical need to keep a degree of fiscal room to support the economy through the pandemic," Kameryan noted. This could be enough to keep the debt ratio below the government’s 55% of GDP ceiling this year, but more fiscal conservatism will be required if the government seeks to keep debt under the EU’s 60% of GDP Maastricht threshold by 2024.
Scope expects a full recovery in Romania’s output to pre-crisis levels by early 2022. The economy is projected to grow 3.5% this year and 4.5% in 2022, after an estimated contraction of 3.9% last year.
According to the ratings agency, overhauling the country’s physical infrastructure with the help of EU funds is a priority, alongside a reform of labour markets to address low labour-force participation and skills mismatches. A third priority is capital-markets reform to encourage domestic savings.
All are important to improve competitiveness and the balance of payments – with a current-account deficit projected at 4.6% of GDP in 2021 – and facilitate inward foreign direct investment, Scope concluded.
On June 12, Scope affirmed Romania’s credit rating at BBB-, as well as its negative outlook.
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