Revisiting the economic growth
model in Romania – some lessons
from the crisis
Ionut Dumitru
President of the Fiscal Council and Chief-Economist at Raiffeisen
Bank*
11 September 2012
*The opinions expressed here are those of the author and do not necessarily reflect the
positions of the institutions the author is associated with
High growth rate in the pre-crisis period …
Economic growth (% yoy, annual average, 2001-2008)
8.0
7.3
7.0
5.8
6.0
5.0
4.0
3.1
3.0
2.0
1.7
3.6
4.2
4.3
6.2
6.3
7.4
6.4
4.4
2.0
1.0
0.0
Source: EUROSTAT
… driven by domestic demand (unbalanced growth)…
Annual growth rate for domestic demand (average 2003-2008)
12
GDP growth driven by
domestic demand
11
Romania
10
Lithuania
Bulgaria
9
Latvia
8
Estonia
7
6
Poland
Slovakia
Slovenia
5
Czech Republic
4
GDP growth driven
by exports
3
Hungary
2
2
3
4
5
6
7
8
9
10
11
12
Annual growth rate for real GDP (average 2003-2008)
Source: EUROSTAT
… financed by debt-generating capital inflows…
External debt by institutional sector (% of GDP)
4.9
15.4
14.8
15.2
14.7
1.6
2.0
3.2
5.7
9.3
12.2
15.6
2007
1.3
14.2
2006
14.6
16.5
19.8
23.6
2005
15.7
12.7
0.1
10.1
2004
12.4
14.4
2003
0
0.7
2002
10
13.9
0.9
2001
20
2.2
0.8
2000
30
1.2
0.3
Banking sector
Companies
34.1
33.9
17.8
18.2
18.3
2010
40
0.1
7.7
14.9
2009
50
11.5
2008
60
7.3
0.2
7.3
26.5
Government
7.5
7.8
16.3
17.4
31.6
32.7
16.6
16.4
2012 Q2
70
2011
80
NBR
Source: NBR
… and FDIs…
10
8
6
4
2
0
Net inward FDIs (% of GDP)
Source: NBR
…public expenditures increased very rapidly, fueling the overheating…
Development of public sector wages and social benefits
12.0
14.0
Compensation of employees (% of
GDP, lhs)
11.0
10.5
Social benefits (including pensions,
% of GDP, rhs)
10.0
10.9 13.0
13.0
12.7
9.7
9.7
9.3
9.0
10.4
8.0
8.1
10.4
7.0
6.0
6.6
8.9
11.5
8.7
8.2
11.0
8.1
7.9
10.4
7.5 10.0
9.7
9.7
6.4 9.4
8.8
8.3
8.5
12.0
9.3
8.9 8.8
8.7
5.8
9.2
9.0
8.4
5.4
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
8.0
1995
5.0
Source: Ministry of Finance, European Commission
…leading to increasing imbalances in the private sector, but also in the
public sector
Structural budget balance (% of GDP, average 2007-2008)
-8
-6
-4
-2
0
0
Larger dependence
of public sectors on
foreign capitals
CZ Not very high
disequilibria
SK
-5
PL
HU
RO
-10
LT
EE
-15
LV
Very high dependence of private
and public sectors on foreign
capitals
-20
BG
Only private sector was
dependent on foreign
capitals
-25
-30
Source: NBR, European Commission
Sudden stop of private capital inflows in 2009…
CA deficit and development of capital inflows
8
20
6
15
10.4
8.6
4
11.6
2
4.2
4.4
4.4
0
3.6
-2
-4
0
2011
2010
2009
YTD 2012*
Foreign capital inflows in private sector (% of GDP)
Portfolio inflows (% of GDP)
Loans from IMF, EC and WB (% of GDP)
Public capital transfers (% of GDP)
Current account balance (% of GDP)
2008
2005 2006 2007 2008 2009 2010 2011 YTD
2012*
2007
-6
-5
2006
5
13.4
2005
10
External funding gap
External funding gap (with -) (% of GDP)
•Jan-Jun 2012
•Funding gap= CA deficit+net private capital inflows
•Source: NBR
…a similar pattern was recorded in the other CEE countries…
30
Net inflows of foreign private capitals (% of GDP)
25
20
15
10
5
0
-5
-10
-15
PL
CZ
SK
Average 2004-2008
RO
HU
BG
Average 2009-2011
LT
EE
LV
Year 2011
Source: EUROSTAT
…leading to a contraction in economic activity…
20
15
12.8
10
14.0
12.8
5.7
10.7
3.9 4.8 3.4
5
12.7
2.1
0
-2.1 -2.8
-5
-10
-5.5 -6.3 -6.4
-6.9
-15
-6.3 -5.8 -7.2
-8.3
-8.6
-13.5
-20
-15.9
-17.8
-25
-23.3
-30
PL
SK
CZ BG RO
EE
HU
LT
LV
Change in GDP between 2008 Q2 and 2012 Q2
PL
SK
CZ BG RO
EE
HU
LT
LV
Size of contraction from 2008 Q2 to the trough
PL
SK
CZ BG
RO
EE
HU
LT
LV
Size of the recovery until 2012Q2
Source: EUROSTAT
The CA was adjusted, but the current level is still high compared with
other CEE countries…
8
6
4
2
0
-2
-4
-6
RO
LV
LT
PL
BG
SL
SK
CZ
EE
HU
Balance for foreign trade in goods and services (% of GDP in 2012 Q1)
Current account balance(% of GDP in 2012 Q1 )
Note: data cumulated over the last four quarters
Source: EUROSTAT
…being financed during the crisis mainly by the external financing
package (IMF/EC/WB) and volatile private capital inflows
25
20
15
10
5
8
Low inflows of foreign private
capitals, mainly speculative
7
0
6
-5
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Jun-12
Net inflows of foreign private capitals (EUR bn, over the last 12 months)
Loans from the IMF/EC/WB (EUR bn, over the last 12 months)
5
4
3
Current account deficit (EUR bn, over the last 12 months)
2
Change in international reserves of NBR (EUR bn, over the last 12 months)
1
8.0
0
-1
6.0
-2
-3
4.0
2.0
05Q2
06Q2
07Q2
08Q2
09Q2
Other private capital inflows (EUR bn)
10Q2
11Q2
12Q2
Portfolio inflows (EUR bn)
0.0
-2.0
-4.0
05Q2
06Q2
07Q2
08Q2
09Q2
10Q2
11Q2
12Q2
Net inflows of foreign private capitals (EUR bn)
Loans from IMF, EC and WB (EUR bn)
Current account deficit (EUR bn)
Change in international reserves (EUR bn)
Source: NBR
Lessons from the crisis
1. A new growth agenda is needed
 Pre-crisis growth model looks neither desirable nor possible in the future;
 Asian style growth (investing only the local savings) or the capital inflows will resume?
Key pillars of the new growth model:
 Higher domestic savings and lower reliance on foreign savings;
 Higher employment rate and higher labor productivity;
 Limited real exchange rate appreciation and strict control of wage-productivity
growth balance;
 Increasing EU funds absorption;
 Increasing reliance on tradable sector, expanding and diversifying exports;
Accept immigration to offset partially the negative demographics;
Lessons from the crisis
1. A new growth agenda is needed
1.1 Higher domestic savings and lower reliance on foreign savings
Saving rate (% of GDP)
30.0
26.3
25.1
25.0
22.7
20.3
20.0
25.8
20.9
24.7
24.8
24.4
21.9
20.9
20.1
18.7 18.6
17.4
18.3
16.2
15.0
17.3
15.6
13.4
10.0
5.0
0.0
average 2005-2008
2011
Source: EUROSTAT
Lessons from the crisis
1. A new growth agenda is needed
1.2 Higher employment rate and higher labour productivity (1)
68
67.2
67.2
66
65.1
64.8
63.9
64
62.8
62
60.7
Hungary
Romania
Bulgaria
Poland
Slovakia
Lithuania
Latvia
Slovenia
EU-27
Estonia
Czech Republic
60
3.0
50.0
2.0
40.0
1.0
30.0
0.0
20.0
-1.0
10.0
-2.0
0.0
Average growth in 2005-2008
% of EU27, 2011 (rhs)
Bulgaria
68.4
60.0
Romania
68.6
4.0
Latvia
70
70.0
Lithuania
70.4
5.0
Estonia
70.9
80.0
Poland
72
6.0
Hungary
74
90.0
Czech Republic
76
EU 2020 TARGET
Labour productivity growth and productivity level
Slovakia
2011
7.0
Slovenia
Employment rate (20-64 years)
78
Average growth in 2009-2011
 Romania has one of the lowest employment rates in EU;
 Increase effective retirement age; education reform and lifelong learning; stimulate re-skilling
and job search; re-attract Romanians working abroad.
 Increase efficiency of public administration (including through introduction of e-government).
Source: EUROSTAT
Lessons from the crisis
1. A new growth agenda is needed
1.2 Higher employment rate and higher labour productivity (2)
Contributions to potential GDP growth in Romania (%)
6.0
5.2
4.6
5.0
5.0
4.2
4.0
3.8
3.4
3.0
2.6
2.7
2.9
2.6 2.1
2.0
2.0
2.1 2.2
2.6
2.5 2.5
2.8
2.1
1.0
0.0
-1.0
-2.0
2016
2015
2014
2013
2012
2011
Capital Accumulation Contribution
PF Potential Growth
2010
2009
2008
2007
2006
2005
2003
2002
2001
2000
1999
1998
-3.0
2004
TFP Contribution
Total Labour (Hours) Contribution
 the high potential GDP growth in the pre-crisis period was driven mainly by large capital
inflows.
The contribution of capital and TFP is expected to be much lower after the crisis;
The contribution of labour should increase.
Source: European Commission
Lessons from the crisis
1. A new growth agenda is needed
1.2 Higher employment rate and higher labour productivity (3)
 Fight undeclared work and reduce tax evasion;
 Legal tax wedge on labour is high in Romania, but implicit taxation is relatively low.
Legal tax wedge vs implicit taxation on labour (SSC and personal income tax)
IT
43
BE
FR
AT
40
FI
Implicit tax rate on labour
DE
Estonia
NL
NO
37
Hungary
Czech RepSE
EU 27
DK Slovenia
34
ES
LU
Slovakia
GR
31
Latvia
Lithuania
Poland
28
Romania
IE
UK
25
Bulgaria
PT
22
22
25
28
31
34
37
40
43
46
49
52
Tax rate on low wage earners (67% of AW)
Source: EUROSTAT
Lessons from the crisis
1. A new growth agenda is needed
1.2 Higher employment rate and higher labor productivity (4)
An increase in employment rate is highly needed also to offset partially the negative
impact of demographics.
Support ratio (Number of contributors/pensioners, %)
400.0
350.0
300.0
250.0
2010
200.0
2060
150.0
100.0
50.0
CY
NL
IE
ES
LU
MT
EL
CZ
FI
PL
AT
BE
FR
SK
DE
PT
SI
LV
EE
IT
LT
HU
BG
DK
RO
0.0
Source: European Commission, 2012 Ageing report
Lessons from the crisis
1. A new growth agenda is needed
1.3 Strict control of wage-productivity growth balance
Unit labour costs growth (%, annual average)
5.5
6.0
2005-2008
2009-2011
4.0
3.0
2.4
1.5
2.0
3.0
1.4
0.8
0.4
0.3
0.1
0.0
-2.0
-0.5 -0.4
-1.0
-0.3
-0.2
-1.8
-2.1
-2.7
-4.0
-4.0
Estonia
Romania
Lithuania
Slovakia
Czech Republic
Slovenia
Hungary
Bulgaria
Poland
Latvia
-5.9
-6.0
 ensure wage growth never exceed productivity growth –increase labour market
flexibility; open labour market to immigration; strictly control increases in public sector
wages.
Source: EUROSTAT
Lessons from the crisis
1. A new growth agenda is needed
1.4 Increasing EU funds absorption
Percentage of structural and cohesion funds allocated per MS paid by the Commission (23/07/2012)
70.0
60.0
58.7
55.6
53.3 52.7
51.4
50.0
49.4
47.3 47.0 47.0 46.6
45.1
40.0
43.3 42.2 42.0
41.4 41.3 40.3
39.7 38.7
38.3
35.4
33.1
30.4
30.0
26.8 26.7 26.1
20.6
20.0
10.0
Romania
Italy
Bulgaria
Czech Republic
Malta
Slovakia
France
Denmark
Hungary
Latvia
Cyprus
Luxembourg
Greece
The Netherlands
Slovenia
Spain
Belgium
Austria
Poland
United Kingdom
Germany
Portugal
Estonia
Finland
Sweden
Ireland
Lithuania
0.0
Data include advances paid by the European Commission
Source: DG Regio, European Commission
Lessons from the crisis
1. A new growth agenda is needed
1.5 Increasing reliance on tradable sector (a more balanced growth),
expanding and diversifying exports (1)
Export to GDP ratio (%)
100
90
80
70
60
50
40
30
20
10
0
RO
PL
LV
BG
2000
SI
2005
CZ
2008
LT
SK
HU
EE
2011
Source: EUROSTAT
Lessons from the crisis
1. A new growth agenda is needed
1.5 Increasing reliance on tradable sector, expanding and diversifying
exports (2)
Exports of goods by destinations - change between 2000 and
2011 (in pp of GDP)
35
30
25
20
15
10
5
0
-5
RO
BG
Euro area
PL
EE
HU
EU countries not in Euro area
LV
SK
Extra EU
CZ
LT
Total
Increase focus on extra-EU exports – restore economic relations with other emerging
markets (BRICs, Arab countries, African Countries) promoting FDIs from non-EU countries
in Romania in exchange to access to their domestic markets.
Source: EUROSTAT
Lessons from the crisis
1. A new growth agenda is needed
1.5 Increasing reliance on tradable sector, expanding and diversifying
exports (3) Top 20 export markets in 1991
Top 20 export markets in 2011
Former Soviet Union
Germany
Italy
Netherlands
France
Former Yugoslavia
UK
Turkey
China
US
Austria
Japan
Poland
Liban
Hungary
Czech Rep.
Egypt
Switzerland
Bulgaria
Syria
Total top 20
23.0
10.9
6.1
5.3
4.1
4.0
3.7
3.6
3.3
2.9
2.5
2.3
2.1
1.9
1.9
1.7
1.6
1.6
1.4
1.3
85.2
Germany
Italy
France
Turkey
Hungary
Bulgaria
UK
Netherlands
Spain
Poland
Russian Federation
Austria
Belgium
Ukraine
US
Czech Rep.
Slovakia
Serbia
Greece
Republic of Moldova
Total top 20
18.6
12.8
7.5
6.2
5.6
3.6
3.2
3.1
2.4
2.4
2.3
2.2
2.0
1.8
1.8
1.7
1.6
1.5
1.4
1.3
83
EU 27
Former Soviet Union
Arab countries
African countries
44.3
23.0
4.0
3.9
EU 27
Former Soviet Union
Arab countries
African countries
71.1
6.0
2.0
2.1
Source: NIS
Lessons from the crisis
2. A new banking model is needed
2.1 More balanced funding model is needed…
Share of external liabilities in total funding
Adjustment in loan to deposit ratio
60.0
CZ
55.0
50.0
Latvia
July 2012
SK
October 2008
45.0
PL
40.0
BG
35.0
30.0
Lithuania
25.0
Romania
Hungary
Estonia
Bulgaria
Poland
20.0
15.0
10.0
Czech
Republic
5.0
Jun-12
Jan-12
Aug-11
Oct-10
Mar-11
May-10
Dec-09
Jul-09
Feb-09
Apr-08
Sep-08
Nov-07
Jun-07
Jan-07
Aug-06
Mar-06
Oct-05
May-05
Dec-04
0.0
RO
HU
LT
LV
EE
55
70
85
100 115 130 145 160 175 190 205
 Back to “basics” - era of cheap funding from abroad to fuel credit boom is over:
 more reliance on LCY deposits and LCY loans;
 Developing local capital markets;
 Increasing cooperation and better management of supervisory bias/conflicts.
Source: ECB
Lessons from the crisis
2. A new banking model is needed
2.1 …as deleveraging of EU banks is expected to continue
Source: “How Did Emerging Markets Cope in the Crisis?”, IMF, 2010
Lessons from the crisis
2. A new banking model is needed
2.2 Clean-up balance sheets and discourage lending in FCY
NPL ratio (%)
20
18
16
14
12
10
8
6
4
2
0
FCY loans in total loans (%)
18.7
15.9
14.9
14.3
13.0
11.0
5.3
5.1
3.9
100
90
80
70
60
50
40
30
20
10
0
89.7
72.0
63.7
63.7
61.2
21.5
4.0
3.0
2.1
 NBR introduced in 2003-2008 tight administrative and prudential regulations to curb lending
growth (especially in FCY for unhedged borrowers), but the impact was short-lived – loans
started to be originated directly from abroad or exported abroad.
 An increasing cooperation and coordination between host and home countries supervisors
is strongly needed.
Source: IMF
Lessons from the crisis
3. Prudent fiscal policy is strongly needed in the future
3.1 Countercyclical fiscal policy is crucial
 Countercyclical fiscal policy is highly needed - build fiscal buffers during good times –
the new fiscal Compact at the EU level will help
 Implementation of fiscal rules and debt thresholds to improve longer-term fiscal
sustainability.
Structural budget deficit development
4
2
0
-2
-4
-6
-8
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012e
2013f
-10
Structural budget deficit (% of GDP)
Cyclical component (% of GDP)
Effective budget deficit (% of GDP)
Source: European Commission
Lessons from the crisis
3. Prudent fiscal policy is strongly needed in the future
3.2 Very prudent public wage and public personnel policies are a must
Ratio of public workers to total number of employees in the economy (%)
40%
State owned companies
General Government sector
35%
30%
25%
20%
15%
10%
Germany
Greece
Austria
Poland
Netherlands
Slovakia
Bulgaria
Czech Republic
Portugal
United States
Spain
Slovenia
Cyprus
Ireland
Romania 2011
EU average
Italy
Belgium
Estonia
United Kingdom
Romania
Hungary
Latvia
Lithuania
France
Romania*
Finland
Romania* 2011
Norway
0%
Denmark
5%
Note: Data for 2008 from LFS – Labour Force Surveys (including the employees from the informal economy)
*Calculation based on the number of employees officially reported by employers (only the taxpayers)
Source: International labour organization (ILO)
Lessons from the crisis
3. Prudent fiscal policy is strongly needed in the future
3.3 Efficiency of public spending should increase significantly
Public investment expenditure
% of GDP
% of budget revenues
Infrastructure quality
7
6
5
4
3
2
1
Germania
Franta
Austria
Cehia
Ungaria
Slovacia
Polonia
Bulgaria
Romania
0
Scor
privind calitatea
infrastructurii
(GCI 2011-2012)
Infrastructure
quality score
(GCI 2011-2012)
Source: EUROSTAT, World Economic Forum, Global Competitiveness Report 2011-2012
Source: Eurostat, World Competitiveness Report, 2012
Lessons from the crisis
3. Prudent fiscal policy is strongly needed in the future
3.4 Tax collection improvement is a must …
Budget revenues and fiscal revenues (% of GDP, ESA 95, 2011)
60.0
55.0
50.0
45.0
40.0
35.0
30.0
25.0
20.0
44.6
39.6
Budget revenues
Fiscal revenues
Source: EUROSTAT; tax revenues include social contributions
UE 27
Zona Euro
Norway
Denmark
Finland
Hungary
Sweden
France
Belgium
Austria
Italy
Netherlands
Germany
Portugal
Slovenia
Iceland
Luxembourg
Cyprus
Greece
United Kingdom
Czech Republic
Malta
Estonia
Poland
Ireland
Latvia
Spain
Bulgaria
Slovakia
Romania
Lithuania
32.5
27.2
Lessons from the crisis
3. Prudent fiscal policy is strongly needed in the future
3.4 …as the tax evasion is very high…
% of GDP
2004
2005
2006
2007
2008
2009
2010
Tax evasion from undeclared work:
3.7%
3.9%
4.3%
4.6%
4.6%
5.8%
5.9%
- personal income tax (PIT)
- social security contributions
(SSC)
VAT fraud
Tax evasion from informal economy
(households)
Total VAT, SSC and PIT tax evasion
Unobserved economy gross value
added*
0.8%
0.8%
0.9%
1.0%
1.1%
1.3%
1.4%
2.9%
3.1%
3.4%
3.5%
3.5%
4.5%
4.5%
3.0%
3.7%
4.8%
4.5%
3.8%
3.8%
3.6%
0.6%
0.7%
0.8%
0.9%
0.9%
0.7%
0.8%
7.3%
8.4%
9.9%
10.0%
9.3%
10.3%
10.3%
14.5%
16.6%
19.2%
20.0%
19.6%
20.9%
21.5%
Source: Fiscal Council’s calculation based on Nation Institute of Statistics data
* National Institute of Statistics estimate
Lessons from the crisis
3. Prudent fiscal policy is strongly needed in the future
3.4 …as a result of very high share of “shadow” economy
Share of shadow economy in GDP in EU-27 countries
35
32.3
29.6
30
29 28.6
26.5 26
25.8
25
25
24.3 24.1
22.8
21.2
19.4 19.2 19.2
20
17.1
16.4 16
14.7
15
13.8 13.7 13.5
12.8
11 10.5
10
9.8
8.2 7.9
5
Austria
Luxemburg
Netherlands
UK
France
Ireland
Germany
Finland
Denmark
Sweden
Slovakia
Czech Republic
Belgium
Spain
EU-27
Portugal
Italy
Hungary
Slovenia
Greece
Poland
Malta
Cyprus
Latvia
Estonia
Lithuania
Romania
Bulgaria
0
Source: Schneider, F. (2012), "Size and development of the Shadow Economy from 2003 to 2012: some new facts”