Download Spring 2004 Forecast Presentation UK

Current account sustainability and
implications for fiscal policy in Romania
Presentation by Lorena IONITA and Stefaan PAUWELS,
European Commission, DG Economic and Financial Affairs
Iasi, 25-26 September 2008
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Contents
•
Part I: assessment of current account sustainability
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•
Current account developments: brief recap
Financing of the current account deficit
The domestic use of foreign savings
Selected indicators of competitiveness
Balance of risks and outlook
Part II: implications for fiscal policy
– What role for fiscal policy?
– Fiscal policy in Romania
•
Part III : EU policy framework - the Stability and Growth Pact (SGP)
– The SGP: background
– Romania and the SGP
•
Conclusions
European Commission
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Part I
Current account sustainability
assessment
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Current account developments
• Romania’s
domestic demand boom has come along
widening external imbalances
• The supply of foreign savings was accelerated by a boom in
financial intermediation.
Current account deficit
% GDP
25%
2002
2007
20%
15%
EU12 average in 2007
10%
5%
0%
-5%
PL
HU
SI
MT
SK
CZ
CY
LT
RO
EE
BG
LV
Source: Commission services
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Financing the CA deficit (1/2)
• Moderate, but increasing vulnerabilities
- Declining relative importance of FDI; non-privatization related FDI flows
resilient so far;
- Increasing reliance on debt financing;
- Coverage rate of short term debt rapidly declining.
Composition external debt stock
70%
%GDP
60%
17%
50%
13%
8%
40%
30%
2%
20%
3%
2%
4%
5%
30%
33%
33%
34%
35%
2000
2001
2002
2003
2004
39%
42%
2005
2006
49%
10%
0%
medium and long-term external debt
2007
short-term external debt
Source: Commission services
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Financing the CA deficit (2/2)
Coverage rate of short-term debt by forex reserves
600%
500%
400%
300%
200%
100%
0%
2000 2001 2002 2003 2004 2005 2006 2007
Source: Commission services
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The domestic use of foreign
savings
Current account deficit in 2006 (%
GDP)
• Mixed picture: predominance of non-tradable sectors amongst FDI and
domestic credit recipients, feeding the domestic demand boom; yet, continued
foreign investor interest in the manufacturing sector strengthens Romania’s export
base.
0%
PL
-5%
CZ
HU
SK
-10%
RO
LT
EE
-15%
BG
-20%
LV
-25%
0%
10%
20%
30%
40%
50%
60%
Share of net inw ard FDI inflow s to tradable sectors in
2000-2005(%)
Source: Commission services
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Export competitiveness (1/2)
• Exports have been low, but
recent signs of recovery
35%
• Signs of healthy export potential
• Rising market shares
• Export composition improved
• High profitability in export
sector
yoy growth
Export profitability (index 2001=100)
30%
200
25%
20%
150
15%
10%
100
5%
Goods exports (fob)
Source: Commission services
Mar-08
Nov-07
Jul-07
Mar-07
Nov-06
Jul-06
Mar-06
Nov-05
Jul-05
Mar-05
Nov-04
Jul-04
Mar-04
0%
Goods imports (fob)
50
ULC manufacturing
Export deflator
0
2001
2002
2003
2004
2005
2006
2007
Source: Commission services
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Export competitiveness (2/2)
• Following the RON depreciation since August 2007, the real
effective exchange rate dropped, stimulating exports
• Equilibrium exchange rate estimations show no evidence of
significant exchange rate misalignments
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External sustainability: balance of
risks and outlook
+
-
Drivers of the
current account
deficit
- Recent surge in exports, strong
competitiveness
- Moderation of domestic demand
pressure on imports following
monetary policy tightening and
stricter prudential rules on domestic
credit
- Significant margin for improving
absorption of (non-debt creating) EU
transfers
- Risk of a further slowdown
euro area, dampening
demand for exports
- Further loosening of fiscal
policy, adding to domestic
demand pressures
- Rapid wage increases,
driving demand for imports
- Lower transfers of
remittances following
slowdown euro area
Financing of the
deficit
Non-privatisation FDI seems to hold
up well
-Increasing short-term debt
roll-over risk
- Higher financing cost
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To sum up:
• Risks to sustainability are moderate, but
increasing
• Healthy export potential
• But: urgent need to cool down of domestic
demand pressures
• Although part of the risks are external, a
stronger domestic policy response, especially
from fiscal policy, will be key in securing investor
confidence
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Part II
Implications for fiscal policy
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What role for fiscal policy?
• Prudence in good economic times
- counterbalance strong private sector expansion
- not only avoid procyclicality, but use good times for fiscal
consolidation
- recognise that potential growth and revenue buoyancy are easily overestimated during economic booms, notably credit and asset price
booms
• Provide cushion when growth slows down
- avoid double retrenchement in case of sudden economic slowdown, i.e.
a reduction of domestic demand compunded by a contraction of public
spending
• Contribute to growth by favouring growth-enhancing
investments
• Foster stable expectations through strong fiscal institutions,
e.g. a credible medium-term fiscal framework, which helps
protect growth-supporting spending priorities
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Fiscal policy in Romania (1/4)
• Fiscal policy has been pro-cyclical, adding to domestic demand
pressure
Romania fiscal stance and output gap
Fiscal stance
(Changes in CAPB)
1.0
Pro-cyclical
fiscal tightening
Counter-cyclical
fiscal tightening
0.0
2005
2007
2008
2009
Procyclical
fiscal
loosening
2003
-1.0
2004
-2.0
Countercyclical
fiscal loosening
-6.0
-5.0
-4.0
-3.0
-2.0
-1.0
0.0
1.0
2.0
2006
3.0
4.0
5.0
6.0
Cyclical conditions
(Output gap)
Source: Commission services’ spring 2008 forecast
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Fiscal policy in Romania (2/4)
• High current spending, notably social benefits and public sector
wages (for its level of economic development) leaves less room
for productive investments
Composition of e xpe nditure (% of total e xpe nditure )
70.0
Romania
60.0
Euro area
50.0
40.0
30.0
20.0
10.0
0.0
Social benefits
Compensation
of employees
Subsidies
Interest
GFCF
Source: Commission services
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Fiscal policy in Romania (3/4)
• Public sector wage policy has been loose; in addition it added
to private sector wage pressures
Gross wage
Romania: Public sector wage developments
(2003=100)
220
Economy wide
200
Public administration
Education
180
Health
160
140
120
100
2005
2006
2007
Source: IMF
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Fiscal policy in Romania (4/4)
• Lack of predictability and weak budgetary
planning and execution:
- Frequent in-year rectifications
- Large end-year spending
- Under-spending of capital expenditure and shifting to
current spending
- Slippages in current spending, notably wages and
social benefits
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Part III
The EU policy framework: the
Stability and Growth Pact (SGP)
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The SGP: background
• Legally-based fiscal rules
• ‘Preventive arm’:
- Stability and convergence programmes:
medium-term budgetary objectives; Council
opinion
- Legal instruments: policy advice; early warning.
•‘Corrective arm’:
- Legal instrument: excessive deficit procedure 3% of GDP deficit threshold; graduated
enforcement mechanism; possibility of sanctions.
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Romania and the SGP (2/2)
• 12 June 2008 Commission policy advice on
economic and budgetary policy in Romania
recommended the country to:
- tighten fiscal policy so as to ensure the deficit does not
breach 3% of GDP reference value and help containing
external imbalances
- implement a binding medium-term fiscal framework
- accelerate structural reforms (labour market,
education, business environment) aiming at increasing
growth potential and external competitiveness.
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Conclusions
• A stronger response from fiscal policy is needed
in line with the recommendations of the June
2008 Commission policy advice:
– Control the deficit level
– Improve the expenditure composition
– Enhance predictability of budgetary policy
• Responsible domestic policy response also
needed to preserve investor confidence, notably
in the current international economic context
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