European Semester 2019 Spring Package: The Commission is sending a warning to Romania about the significant deviation found in 2018

The European Commission has issued on Wednesday a recommendation to the Council, a report on the situation in each EU country.

Hungary and Romania have been subject to Significant Deviation Procedure since 2018 and 2017 respectively. The Commission addressed a warning to Hungary and Romania that a significant deviation was observed in 2018 and recommends to the Council to recommend they correct the significant observed deviation.

Regarding Romania, the EC is critical on the economic imbalances, lays stress on problems faced by education, health system, infrastructure, labour market, justice and on social discrepancies.

Main conclusions:

• The Commission’s analysis led it to conclude that Romania is experiencing macroeconomic imbalances. In particular, vulnerabilities are linked to diminishing cost competitiveness  and  a widening  current  account  deficit  in  a  context  of  an  expansionary  fiscal  policy  and  an unpredictable  business    Recent legislative initiatives create risks for the functioning of the financial sector and may harm private investment.

• On 22 June 2018, the Council decided in accordance with Article 121(4) of the Treaty on the  Functioning  of  the  European  Union  (‘TFEU’)  that  a  significant  observed deviation from the medium-term budgetary objective occurred in Romania in 2017. In view   of   the   established significant deviation, on 22 June 2018 the Council recommended  Romania  to  take  the  necessary  measures  to  ensure  that  the  nominal growth rate of net primary government expenditure does not exceed 3.3% in 2018 and 5.1%  in  2019,  corresponding  to  an  annual  structural  adjustment  of  8%  of  GDP  in each year.  On  4  December  2018,  the  Council  found  that  Romania  had  not  taken effective  action  in  response  to  the  Council  recommendation  of  22  June  2018  and issued  a  revised  recommendation.  In  the  new  recommendation  the  Council  asked Romania to take the necessary measures to ensure that the nominal growth rate of net primary  government  expenditure  does  not  exceed  4.5%  in  2019,  corresponding  to  an annual  structural  adjustment  of  1.0%  of  GDP. In June 2019, the Council found that Romania had not taken effective action in response to the Council recommendation of 4 December 2018. Moreover, based on 2018 out-turn data Romania was found to be in significant deviation from the recommended adjustment in 2018.

• the Commission 2019  spring  forecast  projected  a  general  government  deficit  above  the 3%-of-GDP Treaty reference value in 2019 and in 2020. Overall, the Council is of the opinion that significant further measures will be needed as of 2019 to comply with the provisions of  the  Stability  and  Growth  Pact,  in  light  of  a  strongly  deteriorating  fiscal outlook,  in  line  with  the  recommendation  addressed  to  Romania  in June  2019 with a  view to correcting the significant  observed deviation  from  the  adjustment path toward the medium-term budgetary objective.

• Romania’s budgetary  planning  regularly  ignores  the  provisions  of  the  national  fiscal framework.   The   national   structural   deficit   rule   requires   compliance   with   or convergence  to  the  medium-term  budgetary  objective  of  a  structural  deficit  not exceeding  1%  of    In  2016  Romania  departed  from  the  medium-term  budgetary objective  and  is  on  a  divergent  path  since,  in  breach  of  the  national  deficit  rule.  The two  2018  budget  amendments  adopted  in  autumn  2018,  departed  once  again  from several  auxiliary rules prohibiting  increases  in deficit and expenditure ceilings during the  ongoing  fiscal  year.  The  2019  budget,  adopted  by  the  government  in  February 2019  and  approved  by  the  Parliament  in  March,  again  departed  from  multiple  fiscal rules,  including  the  structural  deficit  rule.

• Tax compliance remains low. As  regards  Value  Added  Tax,  the  difference  between theoretically  expected  and  actually  collected  revenues  remains  very    The  large informal  economy  represents  an  additional  challenge  for  tax  compliance,  while  the high  levels  of  undeclared  work  deprive  the  state  budget  of  significant  resources. Furthermore, the prevalence of cash payments facilitates tax evasion.

• After several  years  of  continued  efforts  to  consolidate  the  financial  sector,  financial stability  was  again  strained  in  2018  by  a  set  of  government  and  parliamentary legislative  The tax  on banks’ assets adopted by  the government  via an emergency  ordinance  at  the  end  of  December  2018,  without impact  assessment  or stakeholder  consultation,  raised  a  number  of  serious  concerns  related  to  its  negative impact on banks’ prudential situation, the conduct of monetary policy and ultimately investment and economic growth.

• The new pension law, adopted by Parliament in December 2018, is likely to pose risks to the sustainability of public finances. The pension point, i.e. the main parameter used for pension  indexation,  is  set  to  increase  by  15%  in  September  2019  and  by  40%  in September 2020.

• Challenges linked to the quality and inclusiveness of the education and training system have a negative impact on Romania’s inclusive growth potential. Spending on education remains one of the lowest in the EU.

• The labour  market  has  been  under  increasing  pressure,  as the  unemployment  rate (4.2%  in  2018)  is  very  low,  while  the  labour  force  is  declining  and  skills  shortages persist. Women’s activity rate, particularly for the young and middle-aged, is low.

• Despite recent improvements, poverty   and   income   inequality remain   high,  and regional  disparities  are    One  in  three  Romanians  is  still  at  risk  of  poverty and  social  exclusion,  with  particular  groups  such  as  children,  the  Roma,  people  with disabilities  and  the  elderly  being  more  affected.  Social  services  have  insufficient quality  and  coverage,  and  uneven  geographical  distribution,  not  correlated  with communities’ specific needs. Only around 20% of administrative territorial units have licensed social services.

• After years of moderate wage growth, Romania is experiencing one of the fastest rates of wage growth in the EU. This is driven by government policies increasing public and minimum wages, record low unemployment rate   and structural labour supply shortages. The minimum wage continues to be set in a non-systematic manner, without an objective mechanism. Consecutive increases over the years resulted in one in three employees earning the minimum wage in 2017, a rate almost four times higher than in 2011.

• The healthcare system  faces  many    Low  funding,  inefficient  use  of  public resources  and  the  lack  of  reform  limit  the  effectiveness  of  the  health  system. Continued emigration has resulted in a sizeable shortage of doctors and nurses. Health infrastructure  and  the  prevalence  of  informal  payments  remain  sources  of  concern. Access  to  healthcare  services  for  those  living  in  rural  areas  and  vulnerable  groups  is limited.  These  factors  in  turn  have  a  negative  impact  on  the  people’s  health  which remains  below  the  EU  average,  despite  recent  improvements.

• The quality of infrastructure, including in the transport, energy, waste and wastewater sectors remains poor and limits Romania’s growth prospects. Despite significant public investment after Romania joined the EU, its physical infrastructure  remains underdeveloped. The general condition and reliability of the road and rail networks are very poor. The infrastructure is not keeping up with the traffic demand generated by an expanding economy.

• The conduct of public policy making has become increasingly unpredictable, weighing on the business environment. A recent example is the  adoption  through  government emergency ordinance of a set of far-reaching measures affecting the functioning of the banking sector, the second pension pillar fund managers, energy and telecommunication companies, without stakeholder consultation or impact assessment.

• Developments throughout the past year have raised concerns with regard to the rule of law and  strengthened  previous  serious  concerns  regarding  the  irreversibility  and sustainability  of  Romania’s  earlier  progress  on  reforming  its  judicial  system  and tackling  high-level    These  issues  are  the  subject  of  monitoring  under  the Cooperation and Verification Mechanism.  Amendments to three  justice  laws are  now in force and contain a number of measures weakening the legal guarantees for judicial independence.

Recommendations for Romania to take action in 2019 and 2020 to:

1. Ensure compliance with the Council recommendation of June 2019 with a  view to correcting the significant deviation  from the adjustment path toward  the medium-term  budgetary    Ensure  the  full  application  of  the  fiscal  framework. Strengthen tax compliance and collection.

2. Safeguard financial  stability  and  the  robustness  of  the  banking    Ensure  the sustainability  of the public pension system and the  long-term  viability  of the second pillar pension funds.

3. Improve the quality and inclusiveness of education, in particular for Roma and other disadvantaged Improve  skills,  including  digital,  notably  by  increasing  the labour  market  relevance  of  vocational  education  and  training and  higher  education. Increase  the  coverage  and  quality  of  social  services  and  complete  the  minimum inclusion   income   reform.   Improve   the   functioning   of   social   dialogue.   Ensure minimum  wage  setting  based  on  objective  criteria,  consistent  with  job  creation and competitiveness. Improve access to and cost-efficiency  of  healthcare,  including through the shift to outpatient care.

4. Focus investment-related economic policy on transport, notably on its sustainability, low carbon  energy  and  energy  efficiency,  environmental  infrastructure  as  well  as innovation, taking   into   account   regional   Improve   preparation   and prioritisation of  large  projects  and  accelerate  their  implementation.  Improve  the efficiency  of  public  procurement  and  ensure  full  and  sustainable  implementation  of the national public procurement strategy.

5. Ensure that legislative  initiatives do  not undermine  legal certainty by  improving the quality  and  predictability  of  decision-making,  including  by  appropriate  stakeholder consultations, effective impact assessments and streamlined administrative procedures. Strengthen the corporate governance of state-owned enterprises.

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