Romania: Tight 2016 budget first major challenge for Romania's new technocrat government
November 27, 2015
Romania’s new government of technocrats comfortably won a confidence vote in Parliament and took office in mid-November, after the previous government led by Prime Minister Victor Ponta resigned two weeks earlier over massive protests against corruption that were sparked by a fatal nightclub fire in Bucharest. The new government’s first major test consists in preparing a tight budget for 2016 that also complies with EU fiscal targets and accommodates the sweeping fiscal easing plans that were approved by the previous government, including a VAT cut from 24% to 20% in 2016.
The new government said that it will implement policies approved by the previous coalition government and its political manoeuvring room will likely be limited by the absence of the permanent support from a political party in Parliament. Following the collapse of PM Ponta’s government on 4 November, President Klaus Iohannis asked Dacian Ciolos, a former European Commissioner, to be the next PM and to form a government of experts. Ciolos’ new government was approved by Parliament on 17 November, receiving backing from all major parties, and is expected to remain in power until the next legislative elections scheduled for late 2016. Ciolos’ government is built of European Commission (EC) staff, civil society and private sector leaders as well as diplomats. Among the line-up, Anca Paliu Dragu, a former IMF official and EC economist, was named Finance Minister and Costin Grigore Borc, head of Romania’s CPH Plc unit, was appointed Economy and Deputy Prime Minister.
In the economic arena, preparing a tight draft budget for 2016 and pushing it through Parliament is Ciolos’ administration’s first major test. According to media reports, the government envisages presenting the draft to Parliament around 10 December. On the one hand, the 2016 budget will need to ensure that Romania meets the EU fiscal targets, including keeping the budget gap within 3.0% of GDP. On the other hand, the budget will need to accommodate the new Fiscal Code and other fiscal relaxation measures that were already approved by the former government and will likely drag on public accounts. The approved fiscal loosing measures are far-reaching: this June, the VAT on food items was cut from 24% to 9%. In January 2016, the general VAT will be lowered from 24% to 20% and the tax on dividends will also be reduced. Further tax reductions are planned to take effect in 2017. Adding to this, on 11 November, the Parliament passed a law to raise public sector wages by 10% in December of this year for groups that were not yet covered by previously-approved wage increases, intensifying pressure on the new government. Yet the latest wage law still needs to be ratified by President Klaus Iohannis, who can opt to send it back to parliament for reassessment.
The fiscal loosing can partly be seen as an attempt to reverse austerity measures imposed in past years. However, its significant scope also suggests that the different political parties are mainly trying to garner support ahead of next year’s elections, irrespective of warnings from several international organizations that the plans threaten to undermine Romania’s public accounts. The IMF’s discontent with Romania’s fiscal plans already led the international body not to extend its Stand-By Arrangement (SBA) with Romania after the last SBA expired in September. While there is the possibility that the new government will take offsetting measures to keep the budget deficit in check, for example by increasing some other taxes, most fiscal decisions will be limited by the fact that they need to be approved by the same Parliament.
Nicolaie Alexandru-Chidesciuc, Economist at JPMorgan, comments:
“We believe that Ciolos’s government will act in the direction of putting fiscal policy back on a sustainable path and will likely attempt to re-engage the IMF. However, both will probably prove a very complicated mission during an electoral year. The chances for an IMF deal have increased, but we do not believe that the government will have the required support in parliament. Thus, we do not expect a new IMF deal next year. The ability to sign an IMF deal is further decreased by populist behavior visible among the majority of parliament members, including political parties that support President Johannis. […] The parliament voted (again) to increase wages in the public sector by 10% to those categories that have not benefited previously from wage hikes (we estimate a budgetary impact of about RON2bn or 0.3% of GDP). The 10% hike approved […] along with other hikes decided by Ponta’s government during last days in the office would bring the budget deficit to about 3% of GDP from our previous estimate of 2.4% of GDP. This further complicates Ciolos's position and mandate during 2016.”