By Chris Bryant in Vienna
Published: June 26 2010
Romania’s government buckled to the inevitable on Saturday by agreeing to raise value-added-tax after a court had overturned part of its austerity package, threatening to delay financing from the International Monetary Fund.
Emil Boc, prime minister, told a press conference on Saturday that VAT would increase by 5 percentage points to 24 per cent from July 1.
“Under these conditions, the agreement with the IMF will continue,” he said, revealing that the IMF’s board would now meet on Wednesday to consider Romania’s deficit reduction measures – two days later than planned.
Bucharest had been extremely reluctant to raise taxes in order to meet this year’s 6.8 per cent deficit target and instead had attempted to force through painful spending cuts, including a 25 per cent reduction in public sector wages and a 15 per cent hit to pensions and benefits.
But the country’s constitutional court ruled on Friday that the pension cuts were illegal, requiring parliament to debate some of the measures anew.
The government controls only a thin majority in parliament and last week only narrowly survived a no-confidence motion brought by opposition Social Democrats. The party has threatened to call another no-confidence motion this week.
Markets reacted negatively to the news on Friday, with the leu tumbling by as much as 1.1 per cent.
The VAT hike is set to generate up to 4bn lei in additional revenues in 2010, helping the government to keep within its deficit target but threatening to dampen consumption at a time when the economy is already depressed.
After contracting by 7.1 per cent last year, the IMF has forecast a further decline of 0.5 per cent this year. Nevertheless, the Washington-based lender had previously urged Romania to consider tax hikes as part of its austerity drive.
In addition to salary and benefit cuts, around 200,000 of Romania’s 1.4m public sector employees are set to lose their jobs in the coming months.
“I cannot hide that I am deeply disappointed that today we are hiking VAT,” Sebastian Vladescu, finance minister, said, according to Reuters. “We are taking this measure because it is important to ensure our financing ability. But we believe this is not what is best for the Romanian economy.”
The VAT increase could also lead to a sharp rise in inflation, analysts wanted on Saturday. Mr Boc promised close coordination with the central bank to avoid such inflationary effects.