Special Report: Romania’s Rocky Start to 2019

By the Quinnipiac Economic Research Team

Source: Eurostat and author’s calculations

Despite 4.1% annual GDP growth in 2018 pushing Romania up in the ranking of European Union members (see “Romania’s GDP Now 15th In EU”), Romania’s stock market and currency ran into a rocky start early in 2019. It was quite evident in Romania’s data over the January-February period this year as shown in the graph below.

The graph above converts Romania’s stock index, BET and interest rate into indices set to 100 on January 1st. Thus we can see how each indicator performs over the two month period in one graph and also where changes are easily translated into percentage terms (i.e., a movement from 100 to 105 is 5%).

All indications are that the government’s deficit has risen to nearly 3% of GDP, which is even larger than it seems given the increase in GDP according to Romania’s National Statistics Institute recent releases (see “Romania’s GDP Now 15th In EU”). On January 1st, the government implemented a new tax on banking, energy and telecomm in part to shore up their growing deficit. That news sent the Romanian Stock Market (BET) into decline, hitting a low of 6934.35 on January 11th.

Concerns over growth, increasing the costs of banking and generally doing business in Romania is believed to also have led to a decline in global investment interest in Romania, driving the Leu higher (relative to the Euro), a decline in the currency’s value. As seen in the following graph, by the end of January, the Leu had risen above it’s historical mean value plus one-standard deviation, indicating a significant increase in the rate/decrease in the currency’s value where it remained through February.

Source: Eurostat and author’s calculations. The dashed line is the 3-month average and the upper and lower bounds are +/-1 standard deviation, respectively.

The declining interest in Romanian investment opportunities is likely driving down asset prices and up interest rates in the country as well. The Eurostat’s Maastricht Criteria interest rate rose over the same period by 10-15%, peaking at a 19% increase at the very end of January, the same time the currency’s value was hitting it’s low.

Based on a comparison of currencies indices across the region (graph above-right), this was clearly a Romania-specific phenomenon (Romania’s exchange rate index in yellow). This suggests that it was indeed driven by the Romanian government’s policies and market reactions to them.

By all indications, these look like the new normal levels for Romania. The taxes are not temporary so economic analysis suggests that the effects will be permanent level changes in economic variables of interest like investment into the country, demand for the currency, etc. Those will have negative long-term consequences for growth.

Depending on whether the government receives and well-manages extra revenue from the higher taxes will determine the effect on the government’s deficit. Romania did enter 2019 with strong economic growth. So, should the higher taxes reduce the deficit and only shave a small percentage off 2019 growth, the move could leave Romania in decent macroeconomic shape.

But, fundamentally the higher taxes are distortionary and will definitely harm the industries taxes, not to mention the broader economy (no matter what happens with the government’s budget). The policy recommendation then would be that a terminal date for the taxes also be announced to allow market participants some hope of a better future.

We will continue to watch Romania’s performance weekly and look to reassess the overall situation by summer to see which direction the economy has taken.


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