Storm clouds loom over the Romanian economy in 2023
Despite robust economic growth in 2022 that was driven by private consumption and investments, the Romanian economy is set to soften in 2023 due to high inflation, tighter financial conditions and Russian-Ukraine war fallout. The direct effects of the Russian-Ukraine war are limited as the country is a cereal exporter (e.g., corn, wheat, barley) and relatively independent for its energy supply (around 70% of energy demand is covered by domestic production). The already limited energy imports from Russia (especially crude oil) were drastically reduced thanks to imports from other countries such as Kazakhstan, Iraq, Azerbaijan, and the UAE. Moreover, following the easing of regulatory requirements for extracting natural gas from the Black Sea, Black Sea Oil & Gas (an independent energy company) began to extract gas in June 2021 from Romania's offshore reserves. However, the indirect impact of the war is being felt via the surge in global commodities prices. The latter pushed up Romania’s average annual inflation rate to over 13.5% in 2022, its highest level since 2003 when Romania last faced spiking inflation. Despite robust state support aiming at softening its impact, inflation has eroded private household purchasing power that is expected to slow consumption over the 2022-23 winter and spring months.
Although the labour market is gradually recovering, the unemployment rate is still above its pre-pandemic level. Paradoxically, skill shortages and brain drain remain a challenge, which could lead employees to continue asking for higher wages, while the minimum wage should rise further. Consumer prices are likely to increase further over 2023, but at a slower pace. To fight inflationary pressures, the central bank of Romania (NBR) increased its key interest rates to 7% in several stages between October 2021 and early 2023, pushing up borrowing costs to their highest level since February 2010. Further hikes are expected in 2023 and will depend on inflation trends. Rising interest rates will weigh on investment, including construction. Net exports should again make a negative contribution to growth in 2023, as the economic slowdown in Europe (over 73% of trade is intra-EU), particularly in Germany (21% of Romanian exports) will hurt exports. Contrasting with brisk services and cereals exports, the exports of electrical components, telephones, machinery, and motor vehicles and parts (35% of exports) will struggle, particularly in light of supply-chain disruptions and rising uncertainty. Furthermore, relatively resilient domestic demand and elevated energy prices will keep the import bill high.
European aid will partly finance the twin deficits
In 2023, the fiscal deficit is likely to narrow marginally due to reduced spending on some of the economic and social measures implemented in 2022 to combat the fallout of the Russia-Ukraine war, while other public spending will remain robust. In this sense, public revenues will not be sufficient to compensate government expenditures owing to the economic slowdown. Meanwhile, the public finances will benefit from loans and grants under the EU’s Multiannual Financial Framework and Next Generation Recovery Plan over the 2022-2027 period, but disbursement delays are expected due to administrative shortcomings. Local implementation of the NextGenerationEU Plan is expected to be delayed as well, with only around 20% of the total allocation absorbed by 2023 because of the low absorption rate. These European funds will also fail to offset public spending in 2023. Public debt (57% external in 2021) will decrease slightly and remain moderate. Rotation of the prime ministership in 2023, elections in 2024 and uncertainty surrounding economic development will undermine future fiscal consolidation. The trade in goods deficit is expected to widen in 2023 as imports rise faster than exports (amid deteriorating terms of trade). This should be partly offset by a higher surplus in the services account (4% of GDP in 2021). Moreover, EU agricultural subsidies and expatriates’ remittances (mainly from Spain and Italy) will still not fully mitigate the repatriation of income by foreign investors. European funds in the form of grants and loans, recovering FDIs and portfolio investments (in sovereign bonds) will finance the current account deficit.
Alliance between rival parties against a backdrop of heightened regional security problems
In November 2021, the centre-right National Liberal Party (PNL) formed a coalition government with the centre-left Social Democratic Party (PSD), historically its biggest rival, and the Democratic Alliance of Hungarians in Romania (UDMR), ending almost two months of stalemate. Together, the three parties have a large majority in both houses of Parliament. Appointed by President Klaus Iohannis, Nicolae Ciuca (PNL) will serve as Prime Minister for 18 months and later be replaced by a PSD candidate for the final 18 months. This rotation is likely to take place in May 2023 and the PNL is unlikely to block the PSD's access to the prime ministerial seat. However, the rotation agreement could harm ongoing political reform as both parties have their own specific goals. According to the latest polls, the PSD has gained support since the end of 2021 and is currently polling at 35%, followed by the PNL at 23% (slightly up from 18% in the middle of 2022). In terms of international relations, Romania is still waiting to be admitted into the Schengen area, which could happen in 2023 at the earliest. In the context of the war, Romania shares the longest border with Ukraine among NATO members, which pushed NATO to bolster its military presence in the Black Sea region and deploy a multinational battlegroup to Romania. Furthermore, increased tensions in late April 2022 between neighbouring Moldova and Moldova’s pro-Russian breakaway region of Transnistria, brought Romania (which has close relations with Moldova) even closer to the war. Overall, the current coalition government, with its rotating prime ministership, is expected to maintain political stability until the next parliamentary elections, scheduled to be held in late 2024.