RECENT ECONOMIC DEVELOPMENTS
Economic growth accelerated to 5.2% in the first half of 2016, the highest since 2008 and the fastest in the EU. Growth was led by private consumption (up 9.4%), which was fueled by expansionary fiscal policy, including a reduction in the standard VAT rate from 24 to 20% in January 2016, and labor market improvements. Investment growth remained solid at 7.3% due to strong private sector activity, especially in construction and information and communications technology (ICT).
Inflation remains in negative territory, helping the central bank to maintain accommodative conditions. Propped up by strong consumption, rising unit labor costs, and the fading out of the base effect of the 2015 VAT cut for food, annual headline inflation picked up but remained negative at -0.2% in August 2016, helped by the declining import prices. The National Bank of Romania (NBR) kept the policy rate at 1.75% in August. Credit to corporations fell 3.9% in July, while credit to households registered an expansion of 6.0%. However, credit growth to households may be impacted by the adoption of the debt discharge (datio in solutum) law, approved in April.
The labor market strengthened on the back of strong growth and fiscal relaxation. Real wages increased by 13.3% in July 2016, and the employment rate reached 59.8% in the first quarter of 2016, up from 59.1% in the same period of 2015. However, employment growth has been concentrated in high-skilled areas, while the integration of young people and other excluded groups remains a challenge. The unemployment rate fell to 6.1% as of end-July 2016, below the EU average of 8.6%.
Keeping the budget deficit under control remains a priority for the Government. The budget deficit widened modestly to 0.5% of the projected GDP in the first half of 2016 due to lower revenues. Revenues fell by 2%, as improvement in the collection of personal income tax (PIT), corporate income tax (CIT), and social contributions could not compensate for the VAT cuts. Expenditures increased 5.5%, driven by a larger public wage bill, pension hikes, and the doubling of the child allowance.
The output gap is expected to close and growth to reach 5.1% in 2016. Growth is expected to remain solid in 2017 as additional fiscal relaxation measures will be implemented, including a further VAT cut to 19%, the elimination of the special construction tax, and a reduction in the excise rate for fuel. Acceleration of consumption is also expected to widen the current account deficit. Inflation is projected to stay in negative territory until end-2016.
The NBR projects a gradual increase in inflation toward 2.0% at the end of 2017. In line with the 2016 budget program and the Government’s Medium-Term Fiscal Framework, the consolidated budget deficit is projected to widen toward 3% of GDP in both 2016 and 2017, pushing public debt to 40.3% of GDP in 2017 from 39.8% in 2015.
The decline in revenues may be partly compensated by lower than expected capital spending, due to a lack of sufficient EU funds projects for the period 2014–2020. The Government will need to contain current spending pressures and improve tax efficiency to avoid entering the Excessive Deficit Procedure (EDP).
Continued strong private consumption, aided by a lower VAT and growth in employment and real wages, should boost real incomes and lead to further declines in poverty incidence. The $5.00/day 2005 PPP poverty rate is projected to decline from 27.0% in 2015 to 21.5% in 2018. The planned introduction of a minimum social inclusion income program in 2018 is expected to improve targeting and increase the level of benefits for the most vulnerable.
 Figures are y-o-y unless otherwise specified.
 Consumer price index (CPI)-deflated.
 15–64 years old.
Last Updated: Oct 05, 2016