Saturday, January 31, 2009

Romania's fiscal plans may be too little too late

By Luiza Ilie
BUCHAREST, Jan 30 (Reuters) - Politically risky cutbacks announced by Romania's centre-left cabinet on Thursday may still prove too little to prevent a full-blown financing crisis as growth slows and its new "junk" credit rating hits home.

The month-old government pledged to cap public sector wages and cut other spending by 1.5 percent as forecasts for growth worsened and analysts cast doubt on it drawing in the cash to fund a current account gap that hit 13 percent of GDP last year.

Ratings agencies officially rank Romania as the EU's most risky bet for investors, and in question now is its ability to fund the gaping external deficit, and avert a deeper recession or run on the leu currency.

To do that, it may have to drastically reform its vast and highly-unionised state administration, which accounts for a third of its workforce and has some of the highest average wages in the economy following triple-digit pay hikes in recent years.

Reforming the sector is urgent, economists say, because it soaks up scarce cash that could be helping keep the economy afloat this year.

"The government has the choice to act now and we will fare better later, or to postpone action and we will fare poorly both now and later on," said ING Bank senior economist Nicolaie Alexandru-Chidesciuc in Bucharest.

"These are its choices, street protests or no."

So far, despite repeated strike threats from state workers' trade unions, Romania has largely avoided the kind of mass protests that have rattled governments in other east European states struggling with economic pain, such as Bulgaria, Latvia and Lithuania.

But unions have yet to endorse Prime Minister Emil Boc's budget plan for 2009, which envisions raising pensions and wages in the public sector by 5 percent, in line with expected inflation but a far cry from double-digit hikes of recent years.

A new round of talks is scheduled for Monday.

PAINFUL

Boc says capping salary growth and eliminating flyaway bonus schemes is vital for his plans to slash the fiscal deficit to 2 percent of gross domestic product from last year's 5 percent.
He also plans to replace overtime pay with time off and decrease manpower spending on public sector personnel by 0.9 percent of GDP or by 20 percent.

This, economists say, goes some way towards trimming down the sector and raising the likelihood that Boc can make good on his overall fiscal plans.

"This is a budget that tries to patch up what it can," said Ionut Dumitru, head of research at Raiffeisen Bank in Bucharest.

"Some of the measures are very drastic but how much can they cut? They are starting with a pretty large handicap. A deficit of 2 percent is very ambitious and hard to attain."

Underlining the scale of the challenge in bringing down the deficit in Romania, the European Commission has forecast the fiscal shortfall to instead reach a staggering 7.5 percent this year.
The cabinet denounced the figure as based on old data, but weighing on the deficit is the previous government's decision to nearly double pensions over last year and this, which has tapped cash that's lacking in the state insurance budget.

Still, with thousands of pensioners living on less than a 100 euros a month, their anger could add to anti-government sentiment.

Boc, an experienced manager in local administration, needs to find a balance soothing economic pain for the public and convincing financial markets that he is serious about public sector reform.
A run on the currency, already weakened by 20 percent against the euro in the last three months, could ignite inflation and plunge Romania into a longer crisis.

Already, two major rating agencies say Romania is the only "junk"-level country in the European Union.

Economic pain is increasingly visible as thousands of workers are laid off and major manufacturers such as ArcelorMittal announce repeated work stoppages.

Uncertainty over economic growth this year adds to worries that Boc's budget plans may be unrealistic, with some analysts saying that building a budget on a projection of 2.5 percent economic growth is irresponsible.

"It wouldn't surprise me to see the budget deficit three, four times as big as what the government is projecting. It can get really messy," said Neil Shearing from Capital Economics.
"Growth is going to be close to minus 2.5 percent and that's going to lead to an absolute collapse in tax revenues. At the same time, there's going to be greater pressure for social spending as unemployment rises." (Reporting by Luiza Ilie; Editing by Patrick Graham)

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