Summer 2020 economic forecasts: Romania's GDP to contract by 6% in 2020

The EU economy will experience a deep recession this year due to the coronavirus pandemic, despite the swift and comprehensive policy response at both EU and national levels. Because the lifting of lockdown measures is proceeding at a more gradual pace than assumed in our Spring Forecast, the impact on economic activity in 2020 will be more significant than anticipated.

The Summer 2020 Economic Forecast projects that the EU economy is forecast to contract by 8.3% in 2020 and grow by 5.8% in 2021. The contraction in 2020 is, therefore, projected to be significantly greater than the 7.7% projected for the euro area and 7.4% for the EU as a whole in the Spring Forecast. Growth in 2021 will also be slightly less robust than projected in the spring.

Recovery expected to gain traction in second half of 2020

The impact of the pandemic on economic activity was already considerable in the first quarter of 2020, even though most Member States only began introducing lockdown measures in mid-March. With a far longer period of disruption and lockdown taking place in the second quarter of 2020, economic output is expected to have contracted significantly more than in the first quarter.

However, early data for May and June suggest that the worst may have passed. The recovery is expected to gain traction in the second half of the year, albeit remaining incomplete and uneven across Member States.

The shock to the EU economy is symmetric in that the pandemic has hit all Member States. However, both the drop in output in 2020 and the strength of the rebound in 2021 are set to differ markedly. The differences in the scale of the impact of the pandemic and the strength of recoveries across Member States are now forecast to be still more pronounced than expected in the Spring Forecast.

An unchanged outlook for inflation

The overall outlook for inflation has changed little since the Spring Forecast, although there have been significant changes to the underlying forces driving prices.

While oil and food prices have risen more than expected, their effect is expected to be balanced by the weaker economic outlook and the effect of VAT reductions and other measures taken in some Member States.

Inflation in the euro area, as measured by the Harmonised Index of Consumer Prices (HICP), is now forecast at 0.3% in 2020 and 1.1% in 2021. For the EU, inflation is forecast at 0.6% in 2020 and 1.3% in 2021.

Exceptionally high risks

The risks to the forecast are exceptionally high and mainly to the downside.

The scale and duration of the pandemic, and of possibly necessary future lockdown measures, remain essentially unknown. The forecast assumes that lockdown measures will continue to ease and there will not be a ‘second wave' of infections. There are considerable risks that the labour market could suffer more long-term scars than expected and that liquidity difficulties could turn into solvency problems for many companies. There are risks to the stability of financial markets and a danger that Member States may fail to sufficiently coordinate national policy responses. A failure to secure an agreement on the future trading relationship between the UK and the EU could also result in lower growth, particularly for the UK. More broadly, protectionist policies and an excessive turning away from global production chains could also negatively affect trade and the global economy.

There are also upside risks, such as an early availability of a vaccine against the coronavirus.

The Commission's proposal for a recovery plan, centred on a new instrument, NextGenerationEU, is not factored into this forecast since it has yet to be agreed. An agreement on the Commission's proposal is therefore also considered an upside risk.

More generally, a swifter-than-expected rebound cannot be excluded, particularly if the epidemiological situation allows a faster lifting of remaining restrictions than assumed.

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The Romanian economy showed signs of resilience in the first quarter of the year, says the latest economy forecast released by the European Commission Tuesday.

The EC says that the real GDP increased by 2.4% year-on-year (0.3% quarter-on-quarter), supported mainly by private consumption and the build-up of inventories. Gross fixed capital formation continued to grow, albeit at a significantly slower pace than in 2019 as a whole. Net exports weighed down on growth as exports fell due to the drop in external demand.
Due to the lockdown triggered by the COVID-19 pandemic, real GDP growth is forecast to show a sharp drop in the second quarter of the year. Private consumption is expected to decline as a result of restrictions on movement as well as lower incomes. Uncertainty is set to weigh significantly on investment decisions this year, while construction activity could offer some relief. The reduced economic activity in Romania’s main trading partners is expected to take a significant toll on exports. All in all, after falling sharply in the first half of 2020, economic activity is forecast to gain traction in the second half, as restrictions are gradually lifted, and to pick up further in 2021. Real GDP is set to contract by 6% in 2020 and then rebound by 4% in 2021.

Risks to the growth outlook are tilted to the downside. A second wave of infections in Romania or one of its main trading partners could delay the economic recovery. In addition, an important factor is how the authorities address the concerns on the fiscal trajectory pre-dating the COVID-19 crisis, which if unaddressed may eventually feed into depressed investor confidence, higher financing costs and a lower growth path.
The sharp drop in energy prices, as well as subdued aggregate demand, are set to reduce inflationary pressures in 2020, compensating an expected increase in food prices, following supply chain disruptions and as a result of a drought. HICP inflation fell from 4% in December 2019 to around 1.8% in May 2020 and is forecast to average 2.5% over the year as a whole. It is expected to pick up to an average of 2.8% in 2021, supported by a recovery in demand.

(More details on Romania: https://ec.europa.eu/economy_finance/forecasts/2020/summer/ecfin_forecast_summer_2020_ro_en.pdf)

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