Adina Postelnicu in Bucharest -
Romania's entry into the EU has coincided with its coalition government splintering and the Liberal Party being torn in two by the animosity that exists between President Traian Basescu and Prime Minister Calin Popescu Tariceanu. Asked why a foreign investor should put money into Romania amid this political upheaval, Sebastian Vladescu, the finance minister and a member of the Liberal Party, gives three reasons: the flat tax system, rising consumption and strong economic growth.
Overall Vladescu says he's optimistic for 2007 and doesn't see any major risks for the Romanian economy through until 2009. A flat tax of 16% and 7% GDP growth in 2006 are strong enough arguments to offset the unstable political and legislative environment, he believes.
But one indicator that causes some concern is the widening current account deficit, which grew to 10% of GDP in 2006, from 8.7% in 2005.
Nevertheless, Vladescu says that because this deficit is financed through foreign direct investment, "it makes us think that it will slow to more sustainable levels."
Indeed, data released Thursday by the Romanian Agency for Foreign Investments (ARIS) showed the country attracted a total of $1.46bn in FDI in 2006, down about 23.2% from the previous year. The fall off in the amount of FDI was attributed to the slowdown in the privatization process.
Vladescu's optimism is shared by his predecessor at the finance ministry, Ionut Popescu, a senator and also a member of the Liberal Party. Popescu says the current account deficit could pose problems only if the government makes matter worse by increasing spending too much, which would introduce inflationary pressure into the mix.
Appointed finance minister in 2004, Popescu was the one responsible for introducing the flat tax in January 2005. Prior to this, taxes on wages and profits were on average above 40%. "The flat tax has been a success beyond my expectations," Popescu says.
There is evidence to suggest the flat tax is helping to raise more in tax revenue. According to official data, budgetary income grew 16.2% in 2005 from 2004. And for 2006, it is projected to rise another 24%. Vladescu says he has made one bet as the current finance minister: that budgetary income will rise to 35% of GDP by 2009, up from the current 32% level.
Popescu says he was replaced in 2005 after he uncovered corruption within the Customs Bureau. "I did not play the political games of those in the party," Popescu said, adding that those he wanted to fire are still working in the customs office today.
The caution of a banker
Unlike Vladescu and Popescu, the governor of the central bank, Mugur Isarescu, is more cautious about the year ahead. He has warned in local and foreign media about "post-integration risks," especially in the banking sector.
He says too much euphoria from joining the EU would be the greatest risk, considering that Romania could experience an economic slowdown, which would trigger higher unemployment and shrinking household incomes. "When you have a success story, the highest risk is failing to manage it properly," Isarescu says.
Another failure would be to discontinue the fight to bring down inflation. An IMF executive who visited Bucharest recently first rang an alarm bell, warning the central bank that the reasons inflation was under 5% was thanks to lower prices for agricultural products and the postponement of hikes in energy price. Next year, the central bank projects inflation at around 4%, but many analysts think this will be difficult to achieve
Higher inflation would put more pressure on public and private salaries, which grew more than 12% in 2006. "Pressures to increase wages will continue after January 2007, but they will not be so high," Vladescu says. "Romanian citizens have to live and earn as European citizens."
Assuming higher wages, stronger-than-projected inflation and a booming economy, the danger is that the economy could overheat.
Vladescu says such a situation is unlikely given there is a target for public-sector wages, which allows the government to correlate wage growth with economic growth.
What does pose a problem in the medium term, Vladescu says, "is an insufficient labor force, both in terms of quantity and quality."
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