by Pavel Popek (CZ)

The starting point for the transformation process in Romania was, in many respects, more difficult than in other countries in central and eastern Europe. Pre-transition policies emphasised self-dependence, putting excessive focus on heavy industry. This strategy led to the depletion of domestic energy sources, and induced costly dependence on imports of energy and raw materials. During the 1980s, the quick reimbursement of a US$ 11 billion foreign debt (20 to 30 per cent of GDP) imposed severe constraints on the population. As there was no growth in exports (in dollar terms), in order to repay the debt imports from the west were cut roughly in half over the decade. The technological lag increased significantly as a result.

Given this difficult legacy, the dominant political forces in place since the early 1990s advocated a gradualist approach, seeking to minimise the social costs associated with the transformation to market. Given the experiences of the last seven years, the costs of a gradual strategy have probably been higher than if a bolder approach in structural transformation had been adopted.

In 1993 OECD Assessment of the Romanian Economy pointed out the risks associated with delaying structural reforms. This may have been overshadowed for a while by the boost in eports and recovered growth in 1993, and the apparent success in reducing inflation under the stabilisation policy of 1994. The risks of the gradualist strategy materialised in 1995. The export performance achieved in 1993-94 could not be sustained. It was based on unrestructured heavy industry heavily dependent on imports of energy and raw materials. In order to support energy-intensive industries, foreign exchange was allocated to these favoured sectors on the basis of a non-market "official" exchange rate. The overall excess demand for hard currencies led to the development of parallel black market exchange rates. In the end of 1995 suffered Romania one of the coldest winters of the century. This lead to rapid growth of need for energy imports. The significant deterioration of the current account deficit resul ted in a fall in confidence in the currency, and the authorities were forced to accept a sharp depreciation in the official exchange rate in November.

Output continued to grow in 1996, but as an impact of workng in conditions of a largely unrestructured economy, the official budget deficit almost doubled to 5.8 per cent of GDP compared with 1995. The overall public sector deficit went up to over 10 per cent of GDP. With rapid growth of the money base, inflation accelerated from 28 per cent at end-1995 to 57 per cent at end-1996, and was rising at a 10 per cent monthly rate in December. Dissatisfied with the slow pace of reform, the IMF and World Bank halted their financial support.

Against this background of growing economic imbalances, a shift of popular support resulted in a coalition of opposition parties coming to power in the parliamentary elections of November 1996, and the election of a new President. The new administration received a strong political mandate to implement wide-ranging structural reforms. Given the precious time that had been lost in the first seven years of transition, the authorities faced strong pressures to implement reforms at a rapid pace.

 After re-establishing dialogue with the international financial  organisations, the government of Victor Coirbea negotiated a package of  financial assistance and in early 1997 committed itself to a "shock therapy" programme of both macroeconomic and institutional reforms. Romania seemed to be on the right way finaly...

A broad legislative package of over one hundred laws was put forward to be adopted in the course of 1997. Early priorities were to liberalise some important prices  that were still under state control (energy, agricultural products and  public services), allow the exchange rate to be market driven, reduce  import tariffs, remove subsidies and phase out directed credits to the agricultural sector. The stabilisation plan also included a restrictive monetary policy and targeted the budget deficit to 4.5 per cent of GDP in 1997. Recognising the social consequences, the government increased child allowances. The most significant changes in the spending structure are a large reduction in assistance to agriculture and industry, an increase in child allowances, and a rise in interest payments on public debt.

The major loss-making state-owned commercial companies are to be privatised or liquidated, and restructuring plans for the so-called Régies Autonomes (the large utility companies and other public entities under direct control of Ministries) are being prepared. In the agricultural sector, the system of directed credits was dismantled and replaced by a much lower level of subsidies which are made  transparent on a separate budget line. The quotas affecting external trade in agricultural products were also eliminated, and import tariffs reduced from a (non-weighted) average of 121.7 to 31.8 per cent.

A new Foreign Investment Law has been adopted, which eliminates restrictions on repatriation of earnings, guarantees free transfers of foreign currency for the purchase and sale of assets, and reduces bureaucratic barriers and other regulations. Foreigners have also been granted the right to buy land.

The closing down of companies, lay-offs and disruption of the previous economic networks are provoking social strain. High interest rates and a sizeable fiscal contraction are depressing aggregate demand and investment. Under the impact of tighter financial policies, industrial production had fallen by 18.7 per cent in September 1997 relative to the same month of 1996.. Unemployment remained at a surprising moderate level of around 7 per cent until late-1997, in the first two months of 1998 grew up to 9.7%. Fortunately, the good agricultural harvest of 1997  provides an important social buffer given the large share of the population working in or depending on this sector, and the importance of own-consumption of agricultural products. In the monetary area, monthly inflation accelerated to 30.7 per cent in March 1997. However, this increase was not regarded as negative development because it was caused mainly by the so much necessary price liberalisation.

Turning to monetary policy, the main objective is to achieve a rapid but also sustainable reduction in the inflation rate. At the same time, the central bank, the National Bank of Romania has sought to counteract the pressures on the exchange rate and domestic liquidity created by the strong increase in capital inflows in 1997. Too great appreciation of the real exchange rate in the short-run could reduce the prospects of export-led growth. Hence, the National Bank of Romania has been intervening actively in the foreign exchange market, and has also been developing monetary instruments to counteract the impact of its interventions on domestic liquidity.

The impact of monetary policy on the economy - along with the broader processes of economic stabilisation and restructuring - will be crucially affected by developments in the banking sector. Despite the presence of around 40 banks in total, this sector is still dominated by four major state-owned banks. These banks are heavily burdened by non-performing loans - mainly a legacy of the  pre-1997 policy when the banks were required to provide low-interest (and largely unrecoverable)  credits to the agricultural and energy sectors. The bad debt problem has continued to grow during 1997, as high interest rates, the fall in the exchange rate, and the general economic downturn have  strained firms' capacity to repay loans (including hard currency credits). By mid-1997, over one half of total bank credits were in the doubtful or loss categories. Nowadays, generally, banks are unwilling to lend except to large, well-established clients. These problems are accompanied by the general lack of ex perience with risk management and assessment in Romanian banks. The new capital and expertise that foreign strategic investors could offer provides a strong argument for including banks in the privatisation process. The contribution of banks  to the development of the private sector, particularly through lower interest rates, can be expected to improve gradually as inflation comes down, the fiscal position stabilises, and confidence in the financial sector returns.

Despite two rounds of mass privatisation during  the first seven years of transition in Romania, only limited progress had been made by early 1997  in transferring some major areas of economic activity to the private  sector. While many small enterprises had been privatised, almost all large industrial enterprises remained under state ownership. In the  agricultural sector, most farmland was restored to private ownership in  the early 1990s. However, at end-1996, some huge farms, notably pig and  poultry, remained under state control, as did the key input suppliers and output distributors. Overall, privatised enterprises accounted for under  20 per cent of the total equity in commercial companies. Furthermore, the  Régies Autonomes (which include large "strategic" enterprises and public  utilities, representing around 20 per cent of employment in the economy)  had not even been included in the privatisation programme, and remained  largely unrestructured. The financial difficulties in all of t hese sectors, as reflected in rising  payment arrears, bad debts, and reliance on public subsidies, repeatedly undermined efforts at macroeconomic stabilisation in the period from 1990 to 1996.

Faced with this limited progress, the government of Victor Coirbea has announced a programme aiming to accelerate the restructuring and privatisation of state-owned enterprises, including the previously untouched areas of banking and the Régies Autonomes. But they should not forget to search the balance between speed and quality of  privatisation. In the case of the Régies Autonomes and the state-owned banks it is of particular importance. Both groups include large entities which will be pillars for the future development of the economy, and this potential should be reflected in the sales' prices (especially in cases such as energy and telecommunications). However, the government was not willing to loose completely their control over the strategic entities. Therefor the use of "golden shares",  have been provided for in the Romanian legislation. The use of such provisions generally stems from political rather than economic considerations. However, golden share clauses come at a price, lowering markedly the value of the assets that are sold, unless potential investors are ensured that rights associated with golden shares are very narrow and precisely defined.

The prime minister Victor Coirbea was supposed to be the one to start the necessary real restructuring in Romania's economy. In early 1998 he turned to be just one in the row of those who tried. He gave up to criticisms in March and stood down. Petre Roman, leader of the senate and head of the Democrats, says: "Reforms were slow and Mr. Coirbea wasn't the man to speed them up". Christian Democrats nominated as a successor 55 years old economist Radu Vasile. Parliament approved both his new government and his ambitious reform timetable. Yet, Standard & Poor's recently dumped a series of downgrades on Romania. Among other negative factors S&P mentioned doubts regarding the new government's chance of lasting a full term. On the other hand they stated some positive factors, above all the decreasing inflation which reached 7.2% in February but only 2.7% in April, which is not much as for Romania's standards.

Romania, together with Bulgaria, Latvia, Lithuania and Slovakia, didn't take the EU's first round of accession talks. The basic reforms outlined by the EU's Accession Partnership that they must complete or take forward in 1998 are: - privatise two banks (privatisation of Banc for Development and Banc Post are being prepared already) - corporatise state enterprises - implement multilateral agreements - adopt draft law on civil service and improve administration - restructure banking and capital markets - complete company law reform - tackle corruption - improve border management These appeals can be compared with the most important actions' plan of the new government of Radu Vasile: - privatise state telecoms monopoly Romtelecom - implement amendments to privatisation law - restructure state electricity utility Renel - restructure state gas utility Romgaz - draft bills on farm credit and privatisation of state farms - launch restructuring of loss-making state-owned firms - audit state-owned foreign trade bank Bancorex - privatise Banc Post and Romanian Development  Bank - privatise state insurer Asirom - restructure state-owned Banca Agricola For sure privatisation is very important for Romania. But isn't the new government forgeting about the other necessary steps?

Concerning the restructuring process, it was announced already more than a year ago that some large loss-making companies in the agricultural and industrial sectors would be liquidated, and several lists of companies were circulated to this effect. However, the assessment of financial viability on the basis of previous losses may be problematic. The previous administered and distorted price system, which included some prices set below average costs, was one of the causes of the financial problems that some companies now face. The authorities should give relatively more emphasis  to the current performance of these enterprises than to their performance records under the distorted circumstances of the past. 

The benefits from restructuring could be delayed if enterprises or public bodies impose restrictions on competition. The Competition Law enacted in 1996 provides an adequate basis for  the two competition agencies to oppose such restrictions using competition law enforcement and "competition advocacy" to advise other governmental entities of the likely consumer impact of existing or proposed regulatory activity. To ensure effective, coherent, and consistent competition law enforcement, the Competition Council, an autonomous agency with more powers but fewer resources than the Government's Competition Office, must in general be able to count on the co-operation of the Office. 

While the government is focusing on big enterprises, the small and medium-size enterprises (SMEs) should not be neglected; deep economic restructuring needs the development of a new private sector. Employment creation in SMEs is needed to absorb labour released by the downsizing of large enterprises, especially as restructuring moves ahead. As in all countries, access to financing is a major constraint on the development of private businesses. However, the success of macroeconomic stabilisation policies and further development of the banking sector (e.g. with growth of mortgage loans) should help in this area. Even more important would be improvements in the administrative "friendliness" for entrepreneurs. Currently,  policies towards SMEs are underdeveloped and are dispersed among several agencies. Improved co-ordination in this area is desirable. 

While adjustment in heavy industries has been slow, foreign trade has already induced a substantial restructuring in some light industries. For example, in wood furniture and manufacture of textiles, which represents substantial pert of Transylvanian industry, net employment declined by as much as 40 per cent between 1992 and 1996 (representing 200 000 jobs). This change occurred mainly in the larger enterprises and resulted in a remarkable overall increase in productivity. The problem is that overall employment creation in SMEs has, so far, compensated for only approximately half of the employment decline in large companies.

Under the impact of the adjustment process, economic hardship is growing: real wages fell dramatically in the first half of the 1990s, and a further decline occurred at the beginning of 1997. There was also growth in the numbers of the unemployed, the under-employed and persons who left the labour market and are no longer looking for jobs. It is clear enough that heavy restructuring must be accompanied by social compensations but it's difficult to define their optimal level. Policies should not encourage too heavy use of early retirement or disability pensions. A flow of potentially productive workers out of the labour force has eased the recorded unemployment growth, but entails a long-term cost both financially and in  terms of human capital. Some additional spending on unemployment benefits or other temporary income transfers, paid on the condition that the recipients seek work, would be preferable.

Increasing returns to educational investment are already apparent, and the education system has a key role to play in the years to come. Policies  to encourage young people to stay on longer in schooling beyond the primary level and to improve job skills are not only an investment in potential productivity gains, but also a way of minimising labour-market bottlenecks that may emerge in the longer term.

Benefits of last resort - social  assistance - can be difficult and costly to administer, but they are likely to become more important in alleviating extreme poverty. Child allowances, in contrast, are primarily an acknowledgement of  the importance of raising a future generation, and cannot serve as a mechanism for reducing poverty. Child allowances are not simply a means to reduce poverty, but help to prevent it.

As far, the most foreign investors have stuck to Bucharest. The center of Transylvania, Cluj Napoca, has a very strategic position half-way between Budapest and Bucarest but poor transport links caused that the city with 200,000 inhabitants is still missing many services including an international standard hotel. Thanks to the mayor Gheorghe Funar, Cluj is perhaps Romania's cleanest and greenest city. He has cleaned up Cluj but does little else to please local businesses. Foreign investors complain city hall officials are only interested in politicking or funding grand urban planning schemes. However, some foreign capital already appeared in Cluj. For example South African Breweries has bought the Ursus brewery and plan to invest over $10 million on revamping the company. A few investment funds and international banks have also spotted Cluj's potential. The Romanian-AmericanEnterprise fund operates loan programmes. The EBRD and Phare are financing improvements in Cluj's water system.

Cluj's inhabitants are widely seen as honest, hard-working and independent.. The workforce is highly educated (Cluj has nine universities, including one Hungarian). Unions are weak and unemployment high, 9.1%. However, most of the jobless are unskilled. Good labour is pricy, average monthly wage in Cluj is Lei 924,000, while the overall Romanian average is Lei 884,000.

Communism left Cluj with relatively good industrial mix - ranging from agriculture, to chemicals and machine building. Its economy is still dominated by communist - era producers like drugmaker Terapia and cluster of chemical producers.Very popular in the entire Romania are products of the Central Europe's biggest shoe factory, the state-owned Clujana. Efforts are underway to attract the capital and expertise these local giants need. Terapia was recently cited by investment bank Creditanstalt as Romania's fifth most attractive company. Cluj has become a centre for Romania's burgeoning cable TV industry, thanks to clear broadcast signals from the West and locals' electronics skills. Locals hope that Cluj will continuously become an electronics industry centre. Tourism plans are also afoot: a new campaign aims to help exploit the beauty of Cluj and its surroundings. But while such plans ferment, crucial sectors like agriculture are heading for crisis.. There's been no investment in Cluj county's half-million hectares of farmland for eight years.

In sum, the Romanian authorities have embarked on an ambitious but long overdue programme of economic reforms. Transition is the only viable option for the government. The costs of slowing down or retreating from the current programme would ultimately be higher than the costs of persevering. Looking ahead, the development potential of Romania is widely recognised. It may sound strange today, but Romania's farmland's fertility made the country a net exporter of food before the World War II! With better management of its natural and human resources, Romania could join the ranks of the well-performing emerging market economies.
 
 

References

• Romania in Transition, Lavinia Stan, Darmouth Publishing Company Ltd., England, 1997 
• The Romanian Economy in 1993/1994: From Stagnation With inflation To Stagnation With Stabilisation, Gábor Hunya, The Vienna Institute for Comparative Economic Studies, 1995 
• Business Central Europe, Romania Survey, Anna Nicholls and Rob Whitford, July/August 1997, pp.37 - 46 
• Business Central Europe, Starting over, Joe Cook, May 1998, pp. 22 
• Business Central Europe, To Do, Joe Cook, May 1998, pp. 
• Business Central Europe, Cluj Napoca, David Hill, May 1998, pp. 74 
• Business Central Europe, Month in Review, April 1998 
• http://www.oecd.org/sge/ccnm/ 
• http://www.bbw.ro/ 

last update: 11 JUL 2002 by Ralph