Starting with the exchange rate and the real sector’s performance, Romania’s short-term indicators turned rather volatile recently and the uncertainty consequently increased. The short-term indicators look positive but their recent performance is arguably sustainable. The potential growth is pretty robust but its realisation depends on reforms in key state companies and particularly on more efficient public administration.

The WB’s Global Economic Prospects report outlines Romania as the country with the widest output gap [unrealised potential GDP] among the countries in the region. Limited fiscal space for public stimuli and low credit growth caused by regional deleveraging are the two key sources of sub-optimal growth in Romania identified by the report. The fiscal space however could be enlarged by fighting tax evasion and decreasing the corruption in collection and use of public money.

GDP increased by 2.2% year on year in Q1 and the industrial production index soared 18.9% year on year in April, exceeding all expectations. Nonetheless, the GDP growth was driven solely by the external demand – which is debatably sustainable. Exports increased rather to EU countries, which was against the logic of faster growing markets. The exports of automobiles become a major driver of industrial and economic growth. Romania’s exports increased robustly by 15.5% year on year in April and marked the sharpest annual increase since October 2011.

Speaking of the outstanding industrial expansion in April, it was partly caused by base effects and companies’ rush to complete contracts before the Easter/Mayday holiday. But even after discounting these effects, the expansion remains robust.
In the financial sector, financial intermediation remains weak amid continuous deleveraging pursued by foreign financial groups. The banks are still stuck in the bad loans extended in the pre-crisis period under a widespread adverse selection process of picking high-profit / high-risk projects. Unfortunately, the adverse selection logic remained in place – indeed amid much weaker business volume.

The exposure of BIS reporting banks to the Romanian banking system decreased by 8% year on year to USD 30.1bn at the end of 2012 but still accounts for 25% of the total assets of the financial institutions [excluding the central bank] in the country, according to our calculations based on BIS reporting central bank data. In Q4/2012 alone, the outflows generated by BIS reporting banks withdrawing money from the Romanian banking system reached USD 1.66bn – the third largest outflow in the deleveraging period that started in Q1/2009.

The stock of loans has remained constant for nearly two years at slightly above EUR 50bn – which is more or less the level of bank lending at the onset of the credit crunch in late 2008. In the meantime however, the share of bad loans increased dramatically to the point where a quarter of the bank loans falls into the loss category.
The internal and external stability indicators [prices, fiscal balance and CA balance] on the upside improved.

Headline inflation, thought the highest in the EU, has stabilised [around 5.3% year on year] and opened the door for a policy interest rate cut for the first time after more than a year. Romania’s central bank cut its end-year inflation forecast to 3.2% year on year in its latest Quarterly Inflation Outlook released on May 8, down from 3.5% year on year forecasted in February.

Romania’s January to May general government deficit narrowed by 0.15pps from January to April and by 0.18pps on year to 1.05% of GDP, the finance ministry announced. The EU Council has endorsed the recommendation of the European Commission issued on May 29 and decided to terminate the excessive deficit procedures launched against five countries including Romania.

Romania’s CA balance remained marginally in the surplus area for the period of January to April despite the small deficit in April. Romania's CA deficit in the rolling 12 months thus narrowed to EUR 3.56bn at the end of April, equivalent to 2.7% of the GDP projected for this year.