Rating agency S&P on Friday, Nov 22, upgraded Romania’s outlook from neutral to positive, estimating there is at least a one-in-three chance to lift the country’s sovereign rating in the second half of 2014.

S&P affirmed its BB+ long term foreign and local currency sovereign credit ratings on Romania. The rating for short-term credit stays at B.

It said in a statement the upgrade would take place if the government performs in line with expectations on three issues: i. the planned programme of budgetary consolidation, ii. public finance reform, and iii. public enterprise restructuring. Elections for European parliament and for Romanian president due next year could, however, derail the government from planned reforms, the rating agency explains, naming the main short-term risk for the country’s performance.

The rating affirmation, on the other hand reflects Romania's steady progress in adjusting the economy towards external demand, consolidating the fiscal accounts, and bolstering the financial sector stability, S&P explains.

Growth driven by external demand…

S&P’s estimate on GDP growth is rather moderate - 2.2% for this year* followed by a similar performance next year. The growth would strengthen in 2015-2016. Notably, S&P explains much of the growth in the coming years by stronger external demand. Labour market reforms in 2011 has improved the economy's flexibility and facilitated the swing  towards export-led growth. Since the growth is primarily driven by external demand, S&P expects the CA deficit to remain very moderate - at 1.6% of GDP over 2013-2016.

… while government actions are key for stirring domestic demand.

At the same time, under S&P’s scenario the country’s domestic demand remains subdued. Fiscal consolidation, low financing and weak investment activity explain this. Nonetheless, the agency expects a certain improvement in the country’s absorption of EU funds. Weak FDI is explained by judicial and bureaucratic uncertainties but also by the weak EU recovery. The government's progress on making the business environment more transparent and predictable, alongside the reform of state-owned enterprises and judicial reform, are essential for how fast the economy can grow.

* Possibly it does not reflect the Q3 flash estimate recently released, showing better-than-expected 4.2% y/y advance in the third quarter.