EUROPEAN COMMISSION Brussels,7.3.2018 SWD(2018) 221 final COMMISSION STAFF WORKING DOCUMENT Country Report Romania 2018 Accompanying the document COMMUNICATION FROM THE COMMISSION TO THE EUROPEAN PARLIAMENT, THE COUNCIL, THE EUROPEAN CENTRAL BANK AND THE EUROGROUP 2018 European Semester: Assessment of progress on structural reforms, prevention and correction of macroeconomic imbalances, and results of in-depth reviews under Regulation (EU) No 1176/2011 {COM(2018) 120 final}





Contents Executive summary 1.Economic situation and outlook 2.Progress with country-specific recommendations 3.Reform priorities 3.1.Public finances and taxation 3.2.Financial sector 3.3.Labour market, education and social policies 3.4.Investment 3.5.Sectoral policies 42 Overview tableAnnex A: Macroeconomic Imbalance Procedure scoreboardAnnex B: Standard tablesAnnex C: References LIST OF Tables Table 1.1:Key economic, financial and social indicators – Romania Table 2.1:Summary table on CSR assessment Table B.1:The Macroeconomic Imbalances Procedure scoreboard for Romania (AMR 2018)

Table C.1:Financial market indicators Table C.2:Headline Social Scoreboard indicators Table C.3:Labour market and education indicators Table C.4:Social inclusion and health indicators Table C.5:Product market performance and policy indicators Table C.6:Green growth LIST OF Graphs Graph 1.1: GDP components and output gap Graph 1.2: Contributions to potential growth Graph 1.3: GDP by region Graph 1.4: Gross fixed capital formation Graph 1.5: Current account breakdown Graph 1.6: Harmonised index of consumer prices (HICP) inflation in constant taxes Graph 1.7: Labour market outcomes Graph 1.8: Population, natural change and net migration Graph 1.9: Breakdown of change in general government balance Graph 1.10: Loans to households and non-financial corporations Graph 1.11: Share of debt in companies facing financial stress Graph 2.1: Overall multiannual implementation of 2011-2017 CSRs to date

Graph 3.1.1: Redistributive power of the tax and benefit system in EU Member States, 2016 Graph 3.1.2: Romania: VAT Revenues, VAT theoretical tax liability (VTTL) and VAT gap Graph 3.1.3: Public debt projection 2017-2028 Graph 3.2.1: Pension funds' real net investment rate of return, Dec 2016 (preliminary) Graph 3.3.1: Nominal compensation per employee and GDP per person employed Graph 3.3.2: People at risk of poverty or social exclusion by degree of urbanisation Graph 3.3.3: Early school leaving rates Graph 3.3.4: Proportion of people with health insurance, registered with a family practitioner Graph 3.4.1: Net international investment position Graph 3.4.2: FDI flows by investment type Graph 3.4.3: Nominal unit labour cost, growth breakdown Graph 3.4.4: Share of export value by quality category, in manufacturing Graph 3.4.5: Export market share by industry Graph 3.4.6: Export market share by country Graph 3.4.7: Changes in regional and global value chain trade Graph 3.4.8: GDP per capita and quality of infrastructure Graph 3.4.9: Ease of doing business Graph 3.4.10: Award of contracts for single bids in 2017 Graph 3.5.1: Regional Innovation performance in Romania Graph 3.5.2: Business R&D intensity, 2007 and 2016

Graph 3.5.3: Logistics Performance Index 2016 LIST OF Boxes Box 2.1: Tangible results delivered through EU support to structural change in Romania Box 3.1.1: Emergency Ordinance No 79/2017: distributive and macroeconomic impact Box 3.3.1: Monitoring performance in light of the European Pillar of Social Rights Box 3.3.2: Main challenges for the education system as a driver of growth in Romania Box 3.4.1: Investment challenges and reforms in Romania Box 3.5.1: Policy highlights: ICT innovative cluster development and advanced manufacturing in West Romania Executive summary In the absence of structural reforms and fiscal consolidation, Romaniaʼs buoyant economic growth risks setting the stage for a hard landing. The current economic boom has been driven mainly by consumption, while investment has remained subdued. The strong economic upswing represents an opportunity to rebuild fiscal buffers and prepare the economy for leaner times. Inequality and poverty rates remain high despite the strong economic growth. Some structural reforms were reversed in 2017 while others stalled. The progress made in the fight against corruption was again put at risk. Ensuring continuity of past reforms would support Romania's transformation to a higher value added economy and could improve the economyʼs resilience to an eventual downturn ( ). The economyʼs cyclical upswing continued in 2017 but is expected to ease off in 2018. Real GDP growth accelerated in 2017 to a post-crisis high on the back of booming private consumption, spurred by wage hikes in both the public and private sector and indirect tax cuts. Growth is forecast to decelerate but stay above potential. Despite export market share gains, the growth of imports has outpaced that of exports and the current account deficit is widening. Inflation turned positive in 2017 and is forecast to accelerate. The labour market has been tightening in line with the strong economic growth. Employment growth was positive in 2017 (0.7 %) and the unemployment rate dropped to 4.9 %, its lowest level in more than 20 years. The low unemployment rate, coupled with a declining labour force and persistent skills shortages, has led to very tight labour market conditions. The compensation of employees is low relative to the EU average but the strong wage growth of 2017, also driven by a 16 % minimum wage hike and public sector wage increases, risks putting pressure on competitiveness and inflation, if not accompanied by corresponding productivity increases. Due to tax cuts and increases in public wages and pensions, the public deficit is on an increasing path. Indirect taxes were cut in 2017 while the personal income tax rate was cut from January 2018. On the expenditure side, public wages and old-age pensions were significantly increased in 2017 and are set to advance further in 2018. As a consequence, the nominal and structural budget deficits are on an increasing path, causing Romania to diverge from the targets in its national fiscal framework. In 2017 the Council launched a significant deviation procedure addressed to Romania. The financial sector has further strengthened, whereas some segments need monitoring. The banking sector remains well-capitalised and its overall health, including asset quality, has continued to improve. However, recurrent legislative initiatives warrant close monitoring. The insurance sector is strengthening, as the measures to address the financial situation of weaker companies have started to bear fruit. The recent reduction in the contributions to the pre-funded second pillar pension funds, which have displayed strong performance since they were set up, eased short term fiscal concerns but could have negative implications for the development of capital markets. Romania has made limited progress on addressing the 2017 country-specific recommendations. No progress was made on ensuring that the national fiscal framework is implemented and there was limited progress in strengthening tax compliance and collection. By contrast, there was some progress on fighting undeclared work while limited progress was made on strengthening targeted labour activation measures. No progress was made on how the minimum wage is set and on equalising the pensionable age for men and women. Limited progress was made on improving access to quality mainstream education. In the healthcare system, limited progress was made on shifting to outpatient care and some progress was achieved on curbing informal payments. There was limited progress on adopting legislation to ensure a professional and independent civil service and on prioritising public investment. Finally, some progress was made on implementing the national public procurement strategy, but sustainability of measures and irreversibility of reforms should be further monitored. Regarding progress in reaching the national targets under the Europe 2020 strategy, Romania is performing well in the areas of employment rates, national greenhouse gas emission, renewable energy, energy efficiency and tertiary education. The national target for reducing the number of people at risk of poverty or social exclusion has already been reached. However, research and development intensity and early school leaving remain some distance away from their respective targets. Romania faces challenges with regard to a number of indicators of the Social Scoreboard supporting the European Pillar of Social Rights. The high economic growth has translated into improved employment outcomes and resulted in a strong increase of household disposable incomes. However, Romania has a high number of early school leavers, and young people not in education, employment or training. Romania has not yet achieved a mature social dialogue, and on social protection and inclusion, challenges remain. Key structural issues analysed in this report, which point to particular challenges for Romania's economy, are the following:

·Labour and skills supply are not keeping up with the fast-changing needs of the economy. Romaniaʼs unfavourable demographic trends are expected to continue. Population aging, limited internal labour mobility and continued emigration represent a significant drag on potential economic growth. Despite recent improvements, labour force participation rates remain well below EU averages. This concerns particularly women, older people, Roma, young people, and people in rural areas. Active labour market policies are insufficient in scope and design. Skills shortages and mismatches have an adverse impact on competitiveness and convergence. Undeclared work continues to distort the labour market. Minimum wage increases are decided in a discretionary manner while social partnersʼ involvement in policy-making is very limited, with no substantive process of involvement and cooperation. Collective bargaining rates are low. ·Poverty increased and income inequality remains high. Inequality of opportunity remains a challenge, especially for rural areas. Income inequality is high, while the redistributive effect of the tax and benefit system is below the EU average. The limited integration of employment, education and social services prevents disadvantaged groups from escaping poverty. The provision of services is limited, especially in disadvantaged areas. Child poverty is high and rising. The entry into force of the Law on minimum inclusion income that would increase the adequacy and coverage of social benefits was postponed again to 2019. Legislation equalising pension ages for men and women has not been adopted. The adopted shift of social security contributions places the burden of financing social protection almost entirely on employees. Access to social protection for all is not ensured. ·No tangible results were achieved on public administration reforms, and the business environment shows weaknesses. Draft legislation on human resource management is currently aligned with the strategy for civil servants but implementation has not started and results are expected only in 2019. The public consultation process, strategic and budgetary planning as well as the use of regulatory impact assessments remains weak, limiting evidence-based policy making. Cumbersome administrative procedures for businesses, slow progress in the provision of e-government solutions, complex insolvency procedures and frequent regulatory changes with limited use of impact assessment and consultation procedures weigh on the business environment. ·The weak performance of the education system limits growth prospects in the long run. Low attainment levels in basic skills and digital skills, persistently high early school leaving, poor Roma inclusion and rural-urban disparities in education result in lost human capital and growth potential. Quality assurance and initial teacher education programmes face challenges. Vocational education and training remains a second choice option and in most cases is not adapted to labour market needs. Access to adult learning is limited, in particular for the low-skilled. ·The health status of the population has improved, but remains below EU standards. Access to healthcare remains a key challenge, also in relation to equality of opportunities, with negative repercussions on child development, workforce employability and healthy ageing. Low funding and inefficient use of public resources limit the health systemʼs effectiveness, against the background of a sizeable shortage of doctors and nurses. Health infrastructure and the prevalence of informal payments remain sources of concern. ·Performance in the area of research and innovation remains modest. Despite a solid IT infrastructure and the rapid development of the ICT sector, Romania continues to score low on all European Innovation Scoreboard indicators and there are no signs of improving performance. The degree of digitisation of both the public and private sector remain very low. Despite increasing public funding and a dynamic start-up ecosystem, technology adoption, internationalisation and scaling-up of companies remain significant challenges. The weak innovation performance could have a negative impact on growth prospects. ·High public spending is not reflected in the countryʼs infrastructure. Despite relatively high public investment rates, the supply of infrastructure is limited, with the perceived quality of infrastructure being one of the lowest in the EU. The general condition and reliability of road and rail infrastructure remain poor and the reform of the transport sector progresses very slowly. Water, waste and energy infrastructure remain deficient. State-owned enterprises’ efficiency is not improving and the corporate governance framework is being weakened. Public investment is characterised by low efficiency particularly in project preparation and prioritisation and public procurement. Businesses see investment in infrastructure as a major priority for public spending. ·The irreversibility of the progress in the fight against corruption was recently put at risk. The continued good results of the judicial institutions in the fight against corruption were largely brought into question by events throughout the past year. The ongoing reforms of the justice laws risk harming judicial independence and undoing progress achieved over the past 10 years. Moreover, judicial institutions and the legal framework for fighting corruption crimes continue to be under intense pressure. 1. Economic situation and outlook GDP and potential growth Growth accelerated further in 2017, fuelled by domestic demand. Real GDP is estimated to have increased by 6.7 % in 2017, following the 4.8 % advance in 2016, marking a new post-crisis peak. Real GDP growth is forecast to ease off but remain above potential growth, at 4.5 % in 2018 and 4.0 % in 2019. Private consumption was the main contributor to growth in 2017, supported by indirect tax cuts and wage hikes both in the public and the private sectors. Private consumption is forecast to slow down in 2018, as inflation increasingly weighs on real disposable income, but is expected to remain the main growth driver. The output gap, which is estimated to have turned positive in 2017, is projected to increase further as actual GDP growth continues to outpace potential growth. Graph 1.1:GDP components and output gap Source: European Commission This strong upswing will not be sustainable in the absence of reforms to increase the economy’s potential. Private consumption has accounted for most of the strong growth over the past few years, supported by a pro-cyclical fiscal policy ( ) (Graph 1.1). In contrast, the contribution of investment to GDP growth has mostly been modest in recent years. In the longer run, insufficient progress on implementing structural reforms supporting investment and the transformation to a higher value added economy will constrain economic growth (see Section 3). Potential growth has improved somewhat driven mainly by total factor productivity. Potential growth is estimated to have been around 3.7 % in 2017, compared to an average of 4.6 % over 2000-2008 (Graph 1.2). Growth in total factor productivity ( ) has been the main driver of potential growth since 2012 and is expected to remain so in the coming years. The contribution of capital accumulation continued to be positive, but smaller compared to pre-crisis times. The contribution of labour was close to zero in 2016 and is estimated to have remained so in 2017 as the effects of a shrinking working-age population and a falling unemployment rate cancelled each other out. Demographics will continue to weigh on growth, calling for sustained improvements to labour productivity (both through total factor productivity growth and more efficient investment) and to labour force participation so as to allow further convergence towards EU average income levels (see Sections 3.3-3.5). Graph 1.2:Contributions to potential growth Source: European Commission Per capita GDP is converging towards EU averages but regional disparities persist. GDP per capita in Romania increased from slightly more than 40 % of the EU average at the time of accession in 2007 to almost 60 % in 2016. Nevertheless, Romania remains one of the EU countries with the lowest GDP per capita. Although all regions have made progress on GDP convergence, the capital region advanced at a markedly faster pace with GDP per capita reaching almost 140 % of the EU average in 2015, further widening the already large gap with the rest of the country (Graph 1.3). Graph 1.3:GDP by region Source: European Commission Investment Romania has one of the highest investment ratios in the EU but the quality of investment is not improving. Total investment reached 22.7 % of GDP in 2016, above the average for the EU (19.8 %) and for the new Member States (19.9 %) (Graph 1.4), consistent with the catching-up process of the Romanian economy. However, the quality of public investment remains constrained by management deficiencies, frequently changing priorities and difficulties in absorbing EU funds while private investment is hampered by continued legal uncertainty and red tape (see Section 3.4).

After a contraction in 2016, investment growth started to recover in 2017. Overall, investment increased by 3.4 % in the first nine months of 2017, following a reduction by 3.5 % in 2016. However, public investment fell sharply in 2017 for the second consecutive year as the uptake of projects financed by EU funds under the 2014-2020 programming period lagged behind. Public investment is estimated to have dropped to 3 % of GDP in 2017, more than 2 percentage points (pps) below the average of the last 10 years. Private investment, driven mainly by housing construction and equipment investment, recovered somewhat but could only partially compensate for the drop in public investment. Graph 1.4:Gross fixed capital formation Source: European Commission Investment is expected to strengthen but uncertainties persist. Public investment is projected to start recovering on the back of a pick-up in the implementation of projects financed by EU funds and amount to 3.5% of GDP in 2018. The 2018 budget provides for a 7.3% increase in domestically-funded capital expenditure compared to 2017 budget execution. However, in the past the initial investment budget has often been substantially under-executed, pointing to similar risks for the future. The tightening of monetary policy in response to mounting inflationary pressures could weigh on private investment. External position The current account deficit has widened since 2014. The reduction of macroeconomic imbalances under the balance-of-payments programmes contributed to a significant improvement of the current account deficit from the trough of 12.7 % of GDP in 2007 to a balanced position in 2014 (European Commission, 2015a). The adjustment was driven by improvements in the trade balance, especially in services (Graph 1.5). However, on the back of robust consumption-led import growth, the current account balance turned around and deteriorated to -0.6 % of GDP in 2015, - 2.3 % in 2016 and - 3.1 % in 2017. As of 2016, the current account deficit was more than 1 pp. higher than expected from the fundamentals. Import growth is projected to continue outpacing that of exports, leading to a further widening of the current account deficit to 3.2 % in 2018 and 3.4 % in 2019. Despite the persistent current account deficit, Romania’s negative international investment position has improved as a share of GDP on the back of the strong economic growth (see Section 3.4). Graph 1.5:Current account breakdown Source: European Commission Inflation and monetary policy After 2 years of falling consumer prices, inflation is picking up. Inflation has been markedly influenced by the successive reductions of the VAT rates for different categories of products and dampened by persistently low global oil prices. After reaching a -3 % low in May 2016, the average harmonised index of consumer prices (HICP) inflation progressively increased but remained subdued due to a further 1 pp. VAT cut in January 2017 and a reduction in excise duties on fuel. Inflation started to accelerate in the second half of 2017, re-entering the National Bank of Romania’s (NBR) target band of 2.5 % ±1 % (Graph 1.6). Headline inflation is projected to further pick up in 2018 as demand pressures mount and the effect of disinflationary tax cuts fades away – or, in the case of excise duties, the cuts themselves are reversed. The NBR has started to reverse its very accommodative monetary policy stance. In January 2018 the NBR increased its key monetary policy rate, which had been unchanged since May 2015, from 1.75 % to 2 %. Market participants expect further hikes in 2018 given the mounting inflationary pressures. In November 2017, the symmetrical corridor formed by the interest rates on permanent credit and deposit facilities was narrowed to ±1 pp. around the monetary policy rate. So far the corridor has been narrowed by 150 bps since November 2014. The aim is to mitigate interbank money market rate volatility and further strengthen the transmission of the policy rate signal. Graph 1.6:Harmonised index of consumer prices (HICP) inflation in constant taxes Source: European Commission, National Bank of Romania Labour market Labour market conditions further improved owing to strong economic growth. Unemployment declined further and is estimated to have reached 4.9 % in Q3-2017, the lowest level in more than 20 years. Employment growth was robust and the employment rate increased to 69 % in Q3-2017, within reach of the national Europe 2020 target of 70 %. The activity rate has also been increasing steadily since mid-2016 but remains one of the lowest in the EU. Graph 1.7:Labour market outcomes Source: European Commission Despite these positive developments, access to the labour market remains highly unequal. Access is particularly challenging for women, people with disabilities, Roma and young people. While youth unemployment has been declining since 2015, the share of young people not in education, employment or training (NEET) remains high, and only recently showed signs of improvement. Moreover, the gender employment gap has increased slightly in 2016 to 17.6 % and remains one of the largest in the EU. Labour supply is not keeping up with the fast-changing needs of the economy. Romania is facing unfavourable demographics. The population has been declining for almost three decades and this trend is expected to continue for the foreseeable future (Graph 1.8). Population ageing will represent a further significant drag on potential economic growth, with the share of people of working age (15-64) expected to fall from 67 % in 2016 to 55 % by 2050. Continued migration poses an additional challenge. Despite recent improvements, labour force participation rates, particularly for women and people older than 50, remain well below EU averages. Skills shortages and mismatches also have an adverse impact on the quality and quantity of labour supplied. Graph 1.8:Population, natural change and net migration Source: European Commission based on national data The growth in labour compensation has accelerated in recent years. The low unemployment, combined with a shrinking labour force and persistent skills shortages, led to a tighter labour market and economy-wide wage increases. After strong growth in 2016, wages increased further in 2017, also driven by a 16 % minimum gross wage hike in February to RON 1 450 (c. EUR 315) and public-sector wage increases. Wages are projected to increase further in 2018 as the net minimum wage was increased by a further 9 % in January while the average net wage in the public sector could progress by 11.5 % (see Section 3.1) ( ). Wages in Romania remain low compared to the EU average and relatively high wage growth is to be expected from a catching-up economy. However, current patterns of wage growth may not be sustainable. Public wages increased by more than 70% between Q1-2015 and Q3-2017 and have considerably outpaced wages in the private sector. The minimum wage has also increased by more than 60% in net terms since 2015. Around 30% of workers earned the minimum wage in 2017, which indicates a highly compressed wage distribution. The strong wage growth may put pressure on competitiveness and inflation if productivity growth does not keep pace with the increases in wages (see Section 3.4.1). Social developments Poverty remains high. In 2016 the risks of poverty and social exclusion increased, affecting 38.8 % of the population and reversing a decreasing trend of several years. The trend does not appear to improve, driven by increases in equivalised disposable income for all households except for the poorest 10 % ( ). The divide between the rich and the poor and between rural and urban areas remains high. High poverty risks are mostly associated with high inactivity levels. High economic growth is accompanied by high inequality. The income of the top 20 % of the population exceeds by seven the income of the bottom 20 % compared to a ratio of five for the EU-28 (see Section 3.3). Meanwhile, inequality at the lower end of the income distribution appears more pronounced, with the bottom 10 % of the population earning 14 times less than the bottom 50 %, one of the highest ratio in the EU.

Inequality remains high along many dimensions. Income inequality remains one of the highest in the EU despite the recent decline, while the tax and benefit system has a limited effect on reducing market income inequality (i.e. before taxes and transfers including pensions) (see Section 3.1.1). Opportunities are also unequal, with educational outcomes and risk of poverty for children highly correlated with parents’ education levels (see Section 3.3). The gap in unmet healthcare needs between the richest and the poorest households (6.5 %) is one of the widest in Europe. These in turn affect labour market outcomes (see Section 3.3). Public finances The public deficit has been widening due to pro-cyclical fiscal policy. Indirect taxes (in particular the standard VAT rate) were cut in 2017, while the personal income tax rate was cut from January 2018. On the expenditure side, public wages and old-age pensions significantly increased in 2017 and will continue to do so in 2018. As a consequence, the structural deficit ( ) is projected to have widened from 2.2 % of GDP in 2016 to 3.3 % in 2017 and to reach 4.3 % in 2018. Meanwhile, the headline deficit is projected by the Commission to have remained at 3.0 % of GDP in 2017 and increase to 3.9 % in 2018 assuming no-policy change (see Section 3.1.1). The tax cuts and expenditure increases are being financed with public debt. Because of the widening of the public deficit, the general government debt is projected to increase from 37.6 % of GDP in 2016 to 40.5 % of GDP in 2019. Assuming no policy change, public debt is projected to increase to above 60 % of GDP in 2027 (see Section 3.1.4). Financial sector Credit growth picked up in 2017. After several years of decline, credit to non-financial corporations started to increase in the second half of 2017 (Graph 1.10). Meanwhile, the growth of credit to households remained stable as a slowdown in the growth of mortgages was compensated by a pick-up in consumption credit. The stock of foreign currency loans continued to fall for both household and corporations, with the domestic currency increasing its share of the total loan stock to 61.8 % in November 2017 (up from a low of 35.6 % in May 2012). House prices are increasing fast, but from a still low level. House prices corrected strongly between 2008 and 2012, falling by more than half in real terms. The correction reversed in 2015 and prices picked up in 2016, increasing by 6.5 % in real terms. The strong momentum continued in the first quarters of 2017, supported particularly by increasing household disposable income and rapid economic growth. Despite a strong increase in 2015 (+15.5 %) and 2016 (+12.0 %) which provided further support to house price growth, mortgages in Romania continue to account for a relatively small share of GDP (7.6 % versus 37.5 % in the euro area in 2016). In spite of the recent increase, valuation metrics suggest that house prices remain undervalued ( ) so the increase in house prices could continue. Graph 1.9:Breakdown of change in general government balance Source: European Commission The banking sector continues to be profitable, well capitalised and liquid. Capital adequacy at system level has been stable since end-2015 and stood at 19 % at the end of September 2017. Liquidity remained at comfortable levels, with the loan-to-deposit ratio around 80 % at end-September 2017. The share of non-performing loans (NPLs) has fallen significantly (see Section 3.2). Despite compressed interest margins, banking profitability has remained in positive territory since 2015. Non-performing loans continue to fall but the share of companies facing financial distress remains high. In 2016, more than 40 % of companies in selected sectors had an interest coverage ratio lower than 1, suggesting a limited ability to meet interest payments (Graph 1.11). The large share of financially stressed companies can act as a drag on economic growth. Besides being significantly less productive, financially constrained companies also tend to reduce employment and invest less than non-financially stressed companies. State-owned enterprises accounted for a substantial share of financially distressed companies (see Section 3.4). Graph 1.10:Loans to households and non-financial corporations Source: National Bank of Romania Graph 1.11:Share of debt in companies facing financial stress Source: Orbis and European Commission calculations Table 1.1:Key economic, financial and social indicators – Romania Source: Eurostat and ECB as of 30 Jan 2018, where available; European Commission for forecast figures (Winter forecast 2018 for real GDP and HICP, Autumn forecast 2017 otherwise)

2. Progress with country-specific recommendations Progress with the implementation of the recommendations addressed to Romania in 2017 ( ) has to be seen in a longer-term perspective since the introduction of the European Semester in 2011. Looking at the multi-annual assessment of the implementation of the CSRs since these were first adopted, 68 % of all the CSRs addressed to Romania have recorded at least 'some progress'. 32 % of these CSRs recorded 'limited' or 'no progress' (see Graph 2.1). Overall, Romania has advanced in implementing country specific recommendations (CSRs) since 2013, and some reforms have been pursued even during the economically challenging times. The decisiveness and speed of implementation have however been uneven, largely dependent on political developments. While there was an acceleration of reform in 2016, the recent follow-up on reform priorities in key sectors has been less strong. In several policy areas subject to CSRs measures have been slowed down or even reversed and significant efforts are still needed to achieve tangible results of reform implementation. Graph 2.1:Overall multiannual implementation of 2011-2017 CSRs to date Source: European Commission On fiscal adjustment past progress has been gradually undone. Since 2009, Romania pursued a significant fiscal consolidation which led to achieving its medium-term objective in 2014 and 2015. However, the authorities have been pursuing an expansionary fiscal policy since 2016 that led to a substantial departure from that objective. Progress on labour market and social assistance reforms moderated in 2017. Some progress was achieved on improving active labour market policies and the public employment service reform especially in 2016, but slowed down since then. The reform of the National Employment Agency is still to be implemented and sustained over the long term through a strong political commitment. No progress was made in 2017 on applying objective criteria for the minimum wage setting and on equalising pensionable age for men and women, following the advances seen in 2016. Progress has been uneven on social assistance reform. The implementation of the Minimum Inclusion Income Law, adopted in 2016, stalled in 2017 and is now postponed for 2019. The pilot project aiming to introduce integrated teams in a number of most deprived communities is delayed. The link with activation measures needs further strengthening. The poverty reduction power of social transfers is still among the lowest in the EU and there is no objective mechanism to update social benefits. Access to quality and inclusive education is faced with continuous challenges. Over the last years, the Romanian authorities have taken some measures to address poor education outcomes and skill shortages by adopting relevant strategies. Some progress has been made in vocational education and training, lifelong learning and higher education but the quality of these services and their labour market relevance remain largely insufficient. After the adoption of the Strategy for Early School Leaving in 2015 and the progress observed the following year, efforts to continue implementation were modest in 2017. This is reflected in high early school leaving rates, unequal access to quality education including for the Roma and large gaps in terms of student performance all pointing to persistent hurdles. Healthcare reform is progressing at a slow pace. Since 2013, the Romanian authorities have made some progress in implementing health-related country specific recommendations on a yearly basis, albeit with some difficulties due to the modest administrative capacity of the Ministry of Health, shifting priorities, poor investment planning and in some cases the lack of political commitment. The shift to outpatient care remains at an early stage, with most efforts concentrated on hospital care. Past measures on reporting informal payments need more time to deliver visible results. Progress on the reform of the public administration has been overall limited. Romanian authorities took some measures regarding the public administration reform by adopting in 2016 the new civil service and staff training strategies. However, draft legislation reflecting the relevant objectives is not yet adopted and results will be seen only around mid-2019. The incomplete human resource reforms limit the capacity to develop and implement policies in a strategic manner, weigh on investments and negatively impact the businesses environment. Overall, Romania made limited progress ( ) in addressing the 2017 country-specific recommendations. There was limited progress on tax compliance and collection, activation measures, education, outpatient care, public administration and public investment prioritization. No progress was made on minimum wage setting, pensionable age and fiscal framework. In contrast, there was some progress on public procurement, fighting undeclared work and curbing informal payments in healthcare. Legislative changes adopted in 2017 reversed the substantial progress made the previous year in strengthening the corporate governance of state-owned enterprises, pointing to a significant backtracking on past reforms. European Structural and Investment Funds (ESI Funds) are pivotal in addressing key challenges to inclusive growth and convergence in Romania, notably by reforming the public procurement system, strengthening the quality and accessibility of primary and community healthcare, and improving basic transport, waste and water infrastructure. The ESI Funds also help extend broadband access and e-Government services, they support youth not in education, employment or training, reinforce the capacity of the public employment service and improve the integration of employment, social and education services. Member States can request from the Commission technical support to prepare, design, and implement growth-enhancing structural reforms. The Structural Reform Support Service (SRSS) provides, in cooperation with the relevant Commission services, tailor-made technical support, which does not require co-financing and is provided at a Member State's request. The support addresses priorities identified in the context of the EU economic governance process (i.e., implementation of country-specific recommendations), but the scope of the SRSS support is wider as it can also cover reforms linked to other Commission priorities, or reforms undertaken at the initiative of Member States. Romania has requested technical support from the SRSS to help implement reforms in various areas. These include governance and public administration, revenue administration, growth and the business environment, health, social services, education, the financial sector and access to finance. In particular, the SRSS provides support to improve the supervisory capacity of the Romanian Financial Supervisory Authority. Table 2.1:Summary table on CSR assessment Source: European Commission Box 2.1: Tangible results delivered through EU support to structural change in Romania Romania is a beneficiary of significant European Structural and Investment Funds (ESI Funds) support and can receive up to EUR 30.8 billion until 2020. This represents around 3 % of GDP annually over the period 2014-2018 and 49% of public investment ( I ). By 31 December 2017, an estimated EUR 8.2 billion (27 % of the total) was allocated to projects on the ground. The investments already contracted will enable the hiring of 174 new researchers, the registration of 200 000 young people not in education, employment or training to the public employment services, the support of 55 marginalised communities through an integrated approach and the implementation of new primary and secondary education curricula. Out of the EU financing, EUR 300 million from the European Regional Development Fund is to be delivered via financial instruments, a 133% increase compared to the 2007-2013 period. ESI Funds help address structural policy challenges and implement country-specific recommendations. Actions financed cover, among others, strategic investments in transport, energy, water and waste management infrastructure; strengthening primary and community healthcare and improving accessibility for vulnerable groups; improving the effectiveness of the justice system; extending broadband access and developing inter-operable eGovernment services. The capacity of the public employment service has been reinforced. Other measures aim to strengthen the management and control systems of EU funds and improve strategic planning. Public procurement reform is supported via the establishment of a Public Procurement Agency, the transposition of the 2014 public procurement directives and the adoption of secondary legislation. However, implementation on the ground is significantly delayed in several sectors. Various reforms were undertaken already as precondition for ESI Funds support. ( II ) The National Transport Master Plan and the National Waste Management Plan aim to provide a stable and sustainable roadmap for future investments and strengthen the administrative capacity of state‐owned enterprises in the sector. However, progress in the preparation of projects aligned to the new strategic planning is very slow. Efforts are made for the swift completion of the preconditions on waste and transport so as to avoid a possible suspension of payments. Romania has received support for the design and implementation of regional smart specialization strategies and for ensuring synergy with the national smart specialisation sectors. Given the success of the pilot phase of the project, focused on the North-East and North-West regions, the Commission is now preparing a roll-out to the other regions, with additional support from the World Bank. The two pilot regions will benefit from dedicated funding for project ideas developed as part of bottom-up, collaborative activities involving regional authorities, universities, businesses and technological transfer entities. Romania is advancing the take up of the European Fund for Strategic Investments (EFSI). As of December 2017, overall financing volume of operations approved under the EFSI amounted to EUR 327 million, which is expected to trigger total private and public investment of EUR 1.1 billion into over 2 500 companies. RDI ranks first in terms of operations and volume approved, followed by energy and SMEs ( III ). Funding under Horizon 2020, the Connecting Europe Facility and other directly managed EU funds is additional to the ESI Funds. By the end of 2017, Romania has signed agreements for EUR 1.2 billion for projects under the Connecting Europe Facility. https://cohesiondata.ec.europa.eu/countries/RO 3. Reform priorities 3.1. Public finances and taxation 3.1.1.FISCAL POLICY The government has been pursuing an expansionary, pro-cyclical fiscal policy, resulting in an increasing fiscal deficit. Indirect taxes were cut at the beginning of 2017 (in particular the standard VAT rate by 1 pp.) while the flat personal income tax rate was cut from 16 % to 10 % from January 2018. On the expenditure side, public wages have been significantly increased in 2017 and 2018, following the adoption of the Unified Wage Law (UWL) in summer 2017, although the fiscal impact of the increases of the gross wages in the public sector was partially contained by a switch of the social contributions to the employee side from January 2018 (see Box 3.1.1). The government also enacted significant increases to old-age pensions, going beyond the standard pension indexation mechanism, which enter into force in July 2017 and July 2018. As a consequence of these measures, the public deficit has been increasing (see Section 1). In June 2017 the Council launched a significant deviation procedure addressed to Romania. 3.1.2.TAXATION

The tax and benefit system has a relatively low degree of redistribution and hence relatively low influence on income inequality. Per capita spending on social protection is one of the lowest in the EU. The personal income tax has a tax-free allowance and a flat rate (reduced to 10% since January 2018). The tax wedge, i.e., the ratio between the amount of taxes paid by a worker and the corresponding total labour cost for the employer, on low income earners is above the EU average, while for high income earners it is below it ( ). As a consequence, the degree of redistribution, measured as the difference between the market income inequality and the disposable income inequality, is relatively limited (see Graph 3.1.1 and Sections 1 and 3.1). Graph 3.1.1:Redistributive power of the tax and benefit system in EU Member States, 2016 Source: Commission calculations based on Eurostat data Tax compliance remains low, in particular in VAT. The VAT gap in Romania, i.e. the difference between theoretically expected VAT revenues and the VAT actually collected, is the highest in the EU. However, it decreased by 5.7 pps in 2015 (see Graph 3.1.2), the second biggest fall in the EU (CASE et al, 2017). As of October 2017, the government introduced an optional VAT split-payment system, aimed at addressing low VAT collection. By the first half of November only 300 companies decided to switch to this optional system. From 2018, the system is mandatory for insolvent companies and for taxpayers with significant old outstanding VAT liabilities. However, the mandatory introduction of electronic cash registers connected to the tax administrationʼs IT system has been postponed ( ). The incidence of undeclared work continues to be relatively high. The share of employees receiving envelope wages – i.e. with underreported salary – is estimated at double the EU average (Williams and Horodnic, 2017). The informal economy is large, ( ) also given the high share of self-employment, especially in agriculture. () In 2017, the Labour and Fiscal Codes were amended ( ) to broaden the definition of undeclared work and to introduce more coercive measures against disguised employment, by increasing fines. While a dedicated department was set up in the Labour Inspectorate to increase controls and run awareness campaigns, the organisation of the fight against undeclared work continues to be fragmented across a range of institutions and the preventive element is still insufficiently developed. Social partners are insufficiently involved in the fight against undeclared work. Since September 2017 (for employers) and January 2018 (for employees) social security contributions for part-time contracts have to be paid based on at least the minimum gross wage.. While the potential impact of this measure has not been fully assessed, it could overall lead to more full time employment. However, the higher tax burden may also create new incentives to avoid formalised employment altogether. The authorities simplified tax compliance obligations, introduced specific anti-abuse measures and somewhat re-organised the tax administration. The Code of Fiscal Procedures was amended in August 2017. VAT registration and deregistration was made dependent on the taxpayerʼs tax risk position (leading to a smoother VAT reimbursement system), the average duration of tax audits was reduced to 82 days, rules for deferring tax payments were made more flexible, and the use of the Private Virtual Space, i.e. an online portal with personal taxpayer accounts, was extended to legal entities, besides individuals ( ). In November, the government introduced specific anti-abuse measures included in Directive 1164/2016 ( ), complementing the general anti-abuse provisions set out already in the Fiscal Code. The Romanian tax administration (ANAF) and its IT system also underwent a minor reorganisation ( ). Graph 3.1.2:Romania: VAT Revenues, VAT theoretical tax liability (VTTL) and VAT gap Source: CASE et al. (2017) Box 3.1.1: Emergency Ordinance No 79/2017:

distributive and macroeconomic impact In November 2017 the government adopted Emergency Ordinance No 79/2017 which substantially changed the structure of social contributions by shifting their burden almost entirely to the employees, from 22.75 % for employers and 16.5% for employees to 2.25% and 35% respectively. It also reduced the personal income tax (PIT) rate from 16% to 10% and increased the PIT-free allowance. These changes entered into force on 1 January 2018. They follow the Unified Wage Law (UWL) adopted in summer 2017, which provided for a 25% gross wage increase for most government employees in January 2018 and additional increases in health and education sectors. Also, to compensate for the shift of social contributions, the government increased the minimum gross wage by 31 % to RON 1 900 (EUR 413) and requested social partners to re-negotiate the wages in the private sector. This concerns a very large number of contracts. These measures are set to have a negative impact on the general government balance. Expenditures on wages of public employees are set to increase and the revenues from PIT are set to decrease. The fiscal cost of the increased wages of public employees is set to be partially compensated by the higher social contributions they are paying. The distributive and equity impact of these changes has been simulated by the European Commission Joint Research Centre using the EUROMOD microsimulation model IV (Graph 1 below). The simulation is static, i.e. it does not incorporate second-round effects of the reforms on the economy. In the public sector, the disposable income increases across all income deciles, although significantly less than what would have occurred without the social contributions shift. For the private sector, the simulation presents a lower-bound scenario of no reaction of gross wages to the shift. Those earning more than RON 1 593 (EUR 341) in the baseline scenario increasingly lose. This is because the increased burden of the social contributions outweighs the higher minimum gross wage, higher PIT allowance and the reduced PIT rate. Moreover, part-time workers lose due to the introduction of a minimum contributory base for social contributions paid by them. The UWL increases market income inequality, as the public employees are mostly situated in the upper part of the income distribution (Graph 2). This impact is more than compensated by the impact on inequality of the increase of the minimum wage. Taken together, these two measures cause market income inequality to marginally fall. Assuming no adjustment of private gross wages, the Ordinance increases the degree of redistribution, in particular thanks to increased PIT-free allowance, and thus decreases the disposable income inequality. The redistributive effect of the Ordinance is, however, diminished by the reduced PIT rate. A renegotiation of private gross wages of those earning more than RON 1 593 (EUR 341) (not simulated) would cause both market and the disposable income inequality to slightly increase compared to the baseline scenario. A simulation using the QUEST global macroeconomic model V shows the second round effects of the UWL and the Emergency Ordinance No 79/2017 (Graph 3). The model does not incorporate the minimum wage increase and assumes no spill-overs from public wages increases to private sector wages. The simulation indicates a gradual increase of real gross wages in the private sector in reaction to the social contributions shift. Therefore, real net wages and labour costs (not shown) in the private sector immediately drop and gradually adjust thereafter. GDP immediately increases thanks to an increase in private employment driven by the decrease in average labour tax-rate on employers (and thus a decrease in labour costs) brought by the shift. The gain in GDP would dissipate in the long run, as private wages adjust and the increase in employment dissipates. Adding the minimum wage increase and spill-overs between public and private sector wages would dampen the impact of the reforms on GDP and employment. 3.1.3.Fiscal framework The national fiscal framework has not been respected, in what appears to have become a recurrent practice. The deficit rule embedded in the national fiscal framework requires compliance with or convergence to the medium-term budgetary objective of a structural deficit of 1 % of GDP. However, in 2016 structural deficit increased above the medium-term objective, in breach of the national deficit rule. Both the 2017 and 2018 budgets target a headline deficit of close to 3 % of GDP, which in presence of an increasing output gap implies a further deterioration of the structural balance, again contrary to the deficit rule. Additionally, the two 2017 budget amendments (from September and November) broke rules prohibiting increases of the headline and primary deficit ceilings during the fiscal year as well as rules prohibiting increases in personnel expenditure and total government expenditure excluding EU funds during the fiscal year. The medium-term fiscal strategy does not guide the annual budget process. Under the Fiscal Responsibility Law, the fiscal strategy sets out the macroeconomic assumptions, medium-term budget planning and expenditure ceilings that should guide the annual budget process. However, in 2017, as in previous years, the authorities did not send an update of the fiscal strategy to Parliament by 15 August, the statutory deadline. Instead the government sent it to Parliament simultaneously with the 2018 budget law in December, thereby undermining the guiding role of the medium-term fiscal strategy. 3.1.4.FIscal sustainability With a high fiscal deficit, the public debt ratio is expected to gradually increase, leading to high debt sustainability risks in the medium term. Due to a high structural primary deficit, interest expenditure is set to gradually increase. Increasing ageing costs related to health care and long-term care will also negatively impact the public debt dynamic. As a consequence, assuming no-policy change, the debt-to-GDP ratio is set on an upward path and expected to go beyond the 60 % Treaty reference by 2028. At the same time it is sensitive to shocks on the primary balance. Romania is one of the few EU countries where debt is projected to rise by 2028 and it is the EU country with the largest projected debt increase ( ) (Graph 3.1.3). Graph 3.1.3:Public debt projection 2017-2028 Source: European Commission The government partially reversed the 2008 pension reform that introduced the multi-pillar pension system. The 2008 reform provides that a portion of social security contributions is directed to funded individual accounts (a defined contribution scheme) managed by pension funds (second pension pillar). It envisaged that contributions to the second pension pillar would be gradually raised to 6 % of gross wages based on a pre-determined schedule. However, in 2016 contributions were increased to only 5.1 % (instead of 5.5 %) and the 2017 budget maintained this rate. In November 2017 the government enacted an emergency ordinance cutting the rate to 3.75 % of gross wages as from 2018. This change will decrease the fiscal deficit in the short term, as the second pension pillar is classified outside of the general government sector. However, that fiscal gain would dissipate in the long term as the social contributions diverted from the second pillar would be accompanied by an obligation to pay old-age pensions in the future. In addition, this reversal will result in less diversified retirement income. It could also have negative implications for the development of capital markets (see Section 3.2). 3.2. Financial sector Banking sector Banking sector capitalisation continues to be reassuring and asset quality has further improved. Total capitalisation at system level remained roughly flat in the first 9 months of 2017, hovering around 19 %, well above the EU average. The Common Equity Tier 1 ratio ( ) has also remained robust, at 17.15 % at the end of September 2017. On the back of the measures adopted since 2014 by the supervisor, non-performing loans (NPLs) fell by roughly 14 pps to slightly below 8 % in September 2017, down from the peak registered in February 2014 ( ). NPLs are estimated to have further fallen to roughly 6 % by the end of December 2017. However, the ongoing clean-up of banksʼ balance sheets faces obstacles. Bank balance sheets continue to be burdened by the quality of corporate exposures and the still high level of impaired consumer loans, which require close monitoring. Through the Fiscal Code amendments approved in August 2017, the government limited the tax deductibility of expenditure related to non-performing exposures sold by banks to 30 %, in contrast to the previous system of full tax deductibility. Whereas the current situation appears manageable, especially for highly provisioned NPLs, the new tax treatment is likely to significantly hinder NPL sales and hence the clean-up of bank balance sheets if NPLs were to increase again. Furthermore, if a legislative proposal by Parliament aiming to cap the recovery values from NPLs to no more than double the price paid for these loans by investors (and debt collection companies) is adopted, this is likely to significantly discourage future secondary market transactions with impaired assets.

The National Bank of Romania (NBR) has reiterated its commitment to conducting an asset quality review and stress test of the banking sector in 2018. Preparatory work started already in 2015 with a view to conducting the exercise in 2016. However, the authorities subsequently postponed the exercise for 2018 to capture the impact of the Debt Discharge Law on banksʼ balance sheets and to allow for the completion of the IMF 2017 Financial Sector Assessment Programme. The asset quality review and stress test exercise is expected to cover all banks identified as having systemic relevance. It is also expected to be performed with the support of independent and reputable third parties. The exercise will be overseen by a Steering Committee, which includes representatives of the NBR as members, plus observers from the European Commission and the European Banking Authority. Profitability has remained strong, supported also by the lower costs of risk and funding. On the back of the buoyant economic growth and the increase in lending activity, profitability at system level continued to improve in 2017. However, profitability has varied between banks, as the smaller credit institutions faced more difficulties to generate profit. Net interest income has continued to be the main source of operating revenues, with several banks, in particular smaller credit institutions, having limited capacity to generate non-interest income. The cost-to-income ratio at system level has been lower than the EU average, but there is further scope for improving efficiency, especially for smaller banks. The streamlining of the banksʼ networks continued, with the total number of branches down by some 3.6 % in September 2017 as compared to end-2016 and by 6.5 % since 2015. The banksʼ business model continues to be geared towards lending to households. Whereas banks have become more prudent about household lending than in the pre-crisis period, they have been also more reluctant to switch to a business model focused predominantly on lending to companies. Several factors have contributed to this state of play: (i) the small size of companies, most of which do not meet the EU definition of SMEs and which among other things do not have a track-record of creditworthiness; (ii) the persistent undercapitalisation of a large number of companies, which have not been bankable and have also contributed to the decrease in payment discipline in the economy ( ); (iii) the difficulties met by banks in hiring qualified staff to support the transition to a business model focused on corporate lending. Risks to the banking sector posed by legislative initiatives have abated, but require close monitoring. Based on a referral by credit institutions, the Constitutional Court ruled in October 2016 that the Debt Discharge Law, which entered into force in May of that year, was constitutional if certain conditions are met so as to minimise the lawʼs unwarranted adverse impact on the banking sector (European Commission, 2017a). The number of notifications by borrowers intending to use debt discharge has declined since this decision of the Constitutional Court. Similarly, following the 2016 Constitutional Court ruling on the unconstitutionality of Swiss franc-denominated loans conversion into local currency loans (European Commission, 2017a), credit institutions continued their efforts to support borrowers in difficulty by offering the possibility to convert Swiss franc-denominated loans into RON-denominated loans with a discount or by restructuring these loans. Despite these developments, the legislative framework applicable to the banking sector continues to require close oversight. A recent initiative by Parliament aims to introduce a maximum cap on interest rates in all loan contracts for lending to households, both for ongoing and new contracts. Under this proposal, the interest rate should not be higher than the policy rate of the NBR +50 % (i.e. 3 % at the end of January 2018). Non-banking sector Although insurance activity expanded in 2017, insurance penetration is still very low. Insurance activity expanded in the first half of 2017, as gross written premiums increased by 2 % in the non-life sector and by 36 % in the life insurance sector as compared to the same period in 2016. Despite this increase in insurance activity, insurance penetration ( ) has remained one of the lowest in the EU at roughly 1.2 % of GDP. Furthermore, the insurance market is highly dependent on non-life insurance, in particular compulsory car insurance (third-party liability motor insurance). The efforts of several companies to diversify their insurance business are still to bear fruit. Despite past corrective measures, several segments of the insurance sector require further improvement. Following the 2015 balance sheet review and stress test of the insurance sector, measures were taken by the Financial Supervisory Authority to restore the financial situation of insurers in distress. Nevertheless, several pockets of vulnerability remain to be addressed, including the thin capital buffers of some weaker insurers and their high reliance on compulsory car insurance. The caps on insurance premiums for compulsory car insurance, which became effective in November 2016, were lifted in May 2017 and replaced by reference prices. The removal of these maximum caps has not, so far, triggered an increase in insurance premiums, which have remained below the reference prices. To continue improving the health of the insurance market and increase the capacity of insurance companies to strengthen their capital basis, efficiency gains through cost-cutting measures appear warranted, in particular over the distribution of insurance products. The independence of the non-banking supervisor has come under pressure. Following measures taken after the 2015 balance sheet review and stress test of the insurance sector (European Commission, 2017a) to address shortcomings related to insurance companies in financial distress and to the situation regarding compulsory car insurance, Parliament launched in late 2016 a procedure to revoke the mandate of the President of the Financial Supervisory Authority. The former President of the Authority was subsequently removed from office by Parliament in May 2017. This was an indication of political pressure in response to the Authorityʼs supervisory actions. This limits the independence of the supervisor to tackle shortcomings identified in its area of competence in a timely manner. Graph 3.2.1:Pension funds' real net investment rate of return, Dec 2016 (preliminary) Source: OECD The recent reductions in contributions to the second pillar pension funds were triggered by short-term fiscal concerns rather than their financial performance (see Section 3.1). The financial situation and functioning of Romanian private pension funds has not been a matter of concern. According to OECD data, they were among the top performing pension funds in the new EU Member States in 2016, together with the Polish and Croatian pension funds (OECD, 2017c). The real net investment rate of return of the Romanian second pillar pension funds stood at roughly 5% in 2016, higher than the average rate of return (simple average) of 3.4% of pension funds in the new EU countries. Reform of the second pillar pensions could weaken pension sustainability and the performance of the local capital market. As of end-June 2017, the second pillar pension funds had total assets of EUR 7.9 billion and roughly 6.9 million participants (individuals). Over the past couple of years, the second pillar pension funds have increasingly diversified their investments. As of June 2017, roughly 65 % of their assets were invested in government bonds, down from around 70% in 2012. Furthermore, these pension funds invested roughly 19.6 % of their assets in equity, 6.4 % in deposits and the remaining in investment funds, corporate and municipal bonds. The investments of the second pillar pension funds in shares listed on the Bucharest Stock Exchange amounted to roughly EUR 1.34 billion at the end of June 2017. These investments went up by roughly 20% compared to end-2016, thanks to the hike in the stock exchange indices and the increase of participations of these pension funds in some of the largest companies listed on the Bucharest Stock Exchange. 3.3. Labour market, education and social policies Labour market demand Employment is growing, driven by strong domestic demand. Employment, including the number of self-employed people, is growing in expanding sectors, i.e. industry and services, which require medium to high levels of skills. At the same time, the total number of persons employed slightly increased over the past 12 months. Employers increasingly report difficulties in hiring and retaining workers. According to survey information, in 2016 72 % of employers reported difficulties in filling jobs, the highest rate since 2008 (Manpower Group, 2016). Skill shortages exist for medium- to high-skill jobs in engineering, machinery, IT and services. Only 29 % of Romanians have at least basic IT skills ( ) while less than 6 % of firms provide ICT training to their staff. Higher wages abroad, low internal mobility ( ), limited entrepreneurship initiative and weak links between education and labour market needs contribute to increasing labour shortages. Substantial wage increases in recent years reflect a tightening labour market. Both labour productivity and wages are converging towards the EU average ( )(Graph 3.3.1). Romania has witnessed an acceleration of wage growth (in real terms) over the past 3 years, with the highest increases registered in manufacturing, the IT and financial sectors, and in the public sector. In addition to the increasing labour shortages leading to a rebound in wages after the crisis especially for medium-to-high skill sectors, other factors explaining the current trend are: (i) successive ad hoc increases in public-sector wages, and (ii) the surge in the statutory minimum wage. However, the 2018 shift of social contributions almost entirely onto employees could have a negative impact on net wages in the short run (see Section 3.1). The shift of social contributions to employees represents a major change. This alters the wage structure and transforms fundamentally the financing of social protection. In most EU countries the shares of employersʼ contributions are frequently higher than or equal to those of the employees (in Denmark social security contributions are financed from taxation). The shift marks also an important deviation from the system of social contributions generally agreed in industrial countries in which employers, employees and the state share the responsibility and burden of the financing. It is also enshrined in various international standards ( ). Graph 3.3.1:Nominal compensation per employee and GDP per person employed Source: European Commission

Box 3.3.1: Monitoring performance in light of the European Pillar of Social Rights The European Pillar of Social Rights, proclaimed on 17 November 2017 by the European Parliament, the Council and the European Commission, sets out 20 principles and rights to benefit citizens in the EU. In light of the legacy of the crisis and changes in our societies driven by population ageing, digitalisation and new ways of working, the Pillar serves as a compass for a renewed process of convergence towards better working and living conditions. Romania faces a challenges with regard to a number of indicators of the Social Scoreboard ( ) supporting the European Pillar of Social Rights. Romania has a comparatively high early school leaving rate, NEET rate, and a relatively large gender employment gap. Romania is also faced with a high risk of poverty and social exclusion, as well as income inequality. While labour market performance has improved, the inactivity of large segments of the working-age population remains a concern. Roma and people with disabilities also have difficulties in getting jobs. The design of active employment measures is still not fully aligned with demand. Particular difficulties pertain to equal opportunities. Inequality of opportunity persists in education, health care, access to employment and to services, and is particularly paramount in rural areas. This is also in the context of weaknesses in social dialogue. Positive results were achieved in de-institutionalising children. The number of children in institutions dropped significantly. An institutional closure plan was drawn up and places the child's interest at the core of the process. The plan will be applied for a first batch of 50 institutions and fosters tailor-made measures for every child in the institutions concerned aiming first to reintegrate children in their family. The current funding is not yet sufficient to reach the targets. Sustained efforts were made on preventive services, and the number of families benefiting from it has increased by 35% from 2011 to 2016. The minimum wage has more than doubled in nominal terms since 2012. The gross minimum wage increased from RON 700 (c. EUR 162) in 2012 to RON 1 450 (c. EUR 315) in 2017 and reached RON 1 900 (c. EUR 413) in 2018, including employers’ social contributions. The minimum wage growth rate over 2012-2017 exceeded that of average wages and increased the share of employees earning the minimum wage to some 30 % in 2016, making the wage distribution compressed at the bottom. Despite a proposal for a set of objective criteria to be taken into account, endorsed by social partners as a good basis forconsultations, the minimum wage continues to be set by the government in a discretionary manner. Shrinking labour supply Demographics and emigration affect the labour market supply. Since 2008 the population has decreased significantly while its age structure has developed unfavourably ( ). In addition, around 3.4 million Romanians work and live abroad. Sectors such as healthcare are particularly affected. Many emigrants are younger and more qualified than the average population ( ), which further constrains the supply of skilled labour. While in the short run foreign remittances help improve the current account, in the long run negative demographics and emigration could hurt growth and income convergence (European Commission, 2017i: p. 56, IMF, 2016). Although the working-age population is shrinking, there is a large untapped labour pool. The activity rate among the population aged 20-64 remains one of the lowest in the EU despite recent improvements (72.5 % in Q3- 2017). Furthermore, long-term unemployment is high, affecting 50 % of the unemployed (2016 data). Regional disparities remain high. An appropriate mix of active labour market policies could help activate several disadvantaged groups in particular prime-aged women with low education, Roma, and young people, mainly from rural areas (World Bank, 2017c). The gender employment gap is high, affecting mainly older women. The gap has increased from 16.7 pps in 2014 to 17.6 pps in 2016. Employment and activity rates of women remain far below the EU average, especially for older women, partly due to the lack of affordable child care ( ), after school facilities and long-term care. The government has taken some measures to formalise the employment of child minders and plans to finance 2 500 nurseries. Employment gaps lead in turn to a gender pension gap that is one of the highest in the EU. Despite these challenges, the bill on pension age equalisation for men and women has been pending before Parliament since December 2013 and no plans have been made to debate it in a plenary session. The number of young people neither in education, employment or training (NEETs) remains very high. While youth unemployment has been declining (17.3 % in 2017), the situation of young NEETs only improved slightly, mainly driven by decreasing early school leaving. Many of the NEETs are economically inactive or discouraged workers (Eurofound, 2016) and the incidence among women and the Roma (FRA, 2016) is particularly high. The implementation of the Youth Guarantee remains weak due to significant delays. The large majority of young NEETs still need to be reached and included in the scheme. Two thirds (65.7 %) of those registered had not received an employment offer within 4 months, while Romania’s allocation under the EU’s Youth Employment Initiative is unspent and risks being returned to the EU budget. There is no follow-up for most NEETs who have received an employment offer. A number of measures have been launched including the provision of Youth Guarantee offers by multi-disciplinary teams of employment and education counsellors, together with social assistants. First results are expected for the beginning of 2018. Active labour market policies (ALMPs) appear insufficient in scope and design. Due to delays in accessing EU-financed ALMPs, financial allocations ( ) and participation rates in such policies ( ) remain very low. Despite increased financial incentives, some measures are overlapping for the target groups, the use and uptake of the mobility schemes remains low, and the administrative burden remains a disincentive for employers. The development of innovative measures and cooperation of the public employment service with social and education services and external providers ( ) are limited. There is no case management for the long-term unemployed and recipients of social assistance. Community work programmes do not provide relevant skills and appear to have limited value as stepping stones into standard employment. Some measures have been taken to strengthen the capacity of the public employment service, while further reform plans (notably on the merger of these services with other institutions) may induce some uncertainty into the reform process. Limited skill forecasting capacities could further affect labour market supply. The current evaluation of skills on which training programmes are based follows a standard procedure, which however is not sufficiently taking into account the rapidly changing needs in the economy (Cedefop, 2017). The capacity to anticipate future skills needs and estimate the expected impact of new technologies such as big data, biotechnologies, waste reuse technologies, advanced manufacturing, as well as public-sector innovations, is therefore weak. The skill forecasting system currently developed by public employment services is expected to guide the design of training programmes, including those funded by the European Social Fund. The involvement of social partners in policy-making is very limited. Institutional structures for social dialogue are in place (e.g. the National Tripartite Council and the broader Economic and Social Council, but also Ministry and county-level committees), but they are mostly used by the government to provide information about planned initiatives, without a substantive process of involvement and cooperation (Eurofound, 2018). The views of social partners on policy-making are often ignored by the government, even when they converge, such as on the recent tax reform and the shift of social contributions from employers to employees. Romania has one of the lowest perceived degrees of cooperation in labour-employer relations in the EU (World Economic Forum, 2017). The capacity of social partners is also limited. The framework for collective bargaining is not conducive to a well-functioning system of industrial relations. Social dialogue is characterised by low collective bargaining ( ), especially at sectoral level, and low membership of trade unions and employers’ organisations. Among key obstacles to a more effective social dialogue are the high representativeness thresholds and the unclear definition of sectors. Amendments to the Social Dialogue Law aimed at improving the bargaining process and the definition of economic sectors have been under discussion but negotiations are not advancing. Inequality High income inequality persists, especially between rural and urban areas. Despite a small improvement in 2016 and recent policy changes, Romania still has one of the highest levels of income inequality in the EU, with the richest 20 % of the population earning seven times more than the poorest 20 %. In 2016, median incomes of rural households were only 52 % of those of urban households. High income inequality is the result of a highly unequal distribution before taxes and benefits (market inequality) and the limited ability of the tax and benefit system to reduce this. Inequality of opportunity remains a challenge. Unequal access to education, healthcare and other services, together with high inter-generational transmission of poverty ( ), prevents children from disadvantaged areas or families from reaching their full potential. Some social measures for pre-school and school-aged children have been introduced, but their take-up is low and kindergarten places face shortages. Rural areas are particularly affected by inequality of opportunity due to poor infrastructure, insufficient employment opportunities and inexistent or poor quality public services (European Commission, 2016a). Poverty and social exclusion Despite economic growth, poverty and social exclusion increased after a four-year decline. The increase in poverty and social exclusion in 2016 is driven by the fact that the disposable income for the bottom 10 % did not increase, unlike for the rest of households. The in-work poverty rate is one of the highest in the EU, at 18.9 %, twice the EU average, reflecting the large percentage of individuals who have near-zero monetary earnings despite working full time, especially in subsistence and semi-subsistence agriculture. The risk of poverty or social exclusion is the highest for young people, families with children, Roma, people with disabilities, the rural population and inactive people (European Commission, 2017a, FRA 2016). Women are more exposed to poverty due to shorter careers, lower retirement age and lower pension contributions. Rural residents face twice the risk of poverty or social exclusion compared to people living in cities (Graph 3.3.2). Graph 3.3.2:People at risk of poverty or social exclusion by degree of urbanisation Source: European Commission Housing deprivation and exclusion affect large parts of the population. A large share of the population faces severe housing deprivation (19.8 % versus 4.9 % in the EU). The figure is also high for children. Housing cost overburden, though decreasing, remains an issue, with one in eight households allocating more than 40 % of their income to housing costs in 2016. Housing overcrowding is well above the EU average, especially for Romanians in monetary poverty. Roma face multiple disadvantages. Compared to the rest of the population they are confronted with very high inequality of opportunity and poverty rates, low employment, poor educational attainment, low health coverage and adverse housing conditions (European Commission 2017a). Residential segregation, forced evictions and discrimination at work persist. While the specific bodies dealing with Roma show more commitment, their impact depends on the work of other institutions. Measures addressing Roma inclusion are mainly supported by externally-funded projects. A good part of them are only just starting.

People with disabilities and children face a higher risk of poverty. Many people with disabilities leave school early and few reach tertiary education, which reduces their employability. Their situation is worsened by the absence of targeted employment services and the uneven availability of vocational counsellors and job coaches. Child poverty is among the highest ( ) in the EU and rising, also due to the low effectiveness of the family benefit system and limited integrated measures to address the situation. Access to social protection is limited, in particular for workers without a standard employment contract, and for many self-employed. High poverty incidence is driven by unemployment, inactivity and unequal access to services and social protection. Most recipients of social assistance are poorly educated and live in rural or remote areas, where jobs and access to services are very limited. More than half of the rural population employed in subsistence agriculture is not covered by pensions or unemployment insurance and many do not have health insurance. Casual and seasonal workers are not covered by mandatory healthcare insurance and have less access to parental leaves. The risk of poverty for the self-employed is more than ten times higher than for employees. Part-time workers, more than half of which are in involuntary part-time (59.4 %, against an EU average of 15.3 %), also face a very high risk of poverty. Unemployment benefits are very low. They have a very low and decreasing coverage and strict eligibility criteria ( ). The coverage rate for the short-term unemployed has decreased from 2013 to 2016, to around 10 % (). The adequacy of benefits is low and has been declining markedly since 2010. The net replacement rate for a worker at the average wage declined from 45 % to 30 % in 2016. With RON 500 per month, the Social Reference Index on which unemployment benefits are calculated is well below the minimum wage; it has not been indexed since its introduction in 2008. Social service provision remains fragmented and increasingly dependent on the financial capacity of municipalities. There is little coordination in the provision of services between national, local, public and private bodies and the coverage of social services is limited, especially in rural areas. Some services, such as long-term care or counselling are mainly provided in big cities. Staffing levels vary greatly between big cities and rural communities, with many municipalities not having a social assistant. Social and employment services are not systematically linked ( ) and ALMPs are not tailored to the individual needs of social assistance beneficiaries (see Section 3.4.5). A pilot project aiming to introduce integrated services in over 100 marginalised communities is advancing at a slow pace, despite long standing discussions. Despite several years of preparation, the implementation of the Minimum Inclusion Income Law was again delayed. The current minimum income is one of the lowest in the EU not only in absolute terms but also as measured by its distance to both poverty line and low wage earners, with social assistance spending equally low. The Minimum Inclusion Income law will increase adequacy and coverage, but its long-awaited entry into force, initially scheduled for April 2018, was postponed by one more year, with negative effects on poverty and social exclusion. Education and skills The weak performance of the education and training system will limit growth prospects in the long run. Persistently high early school leaving rates (Graph 3.3.3), unequal access to quality education and large shortcomings in student performance, as measured by basic skills performance, point to a large unused human capital potential. Vocational education and training is not well linked to labour market needs. These factors will translate into lost growth opportunities if left unaddressed, and assuming the countryʼs negative demographics are not reversed (see also Box 3.3.2). External school and higher education evaluation face continued challenges. Quality assurance in school education remains largely focused on compliance, due to fragmentation and overlaps in responsibilities. Mechanisms to support school improvement and development are relatively weak (OECD, 2017a), despite the recent efforts to make better use of quality assurance findings. The quality assurance body for pre-university education cannot make recommendations to support schools, while school inspectorates’ tasks mostly relate to compliance with regulations. Despite recent efforts by the quality assurance body in higher education to improve external evaluation and standards for bachelor, master’s and doctoral programmes, fostering excellence in higher education remains a significant challenge. Rural-urban disparities, Roma exclusion and inequality in education often overlap. Schools in rural areas are less likely to provide quality education compared to urban schools ( ). The gap in underperformance between advantaged and disadvantaged students is one of the highest in the EU (36.9 pps in science compared to 26.2 pps for EU-28). Roma inclusion in education remains a challenge with implications for social inclusion and future employability ( ). Segregation in education, in particular due to residential segregation, remains a challenge. Graph 3.3.3:Early school leaving rates Source: European Commission Inclusive education in the classroom requires strengthening. Initial teacher education offers insufficient training, especially on working with students from disadvantaged backgrounds, Roma and students with learning difficulties. Attracting high-quality teachers to disadvantaged schools is a persistent challenge. The current merit-based allowance system is insufficiently geared towards supporting work with students from disadvantaged backgrounds. Healthcare The health status of the population has improved, but remains below EU standards. Despite recent improvements, life expectancy in Romania is almost 6 years below the EU average. Heart diseases and strokes, though decreasing, remain the biggest contributors to mortality, while the incidence of some forms of cancers has increased sharply. Other major pressing challenges are the declining rates of vaccination for children and the high rate of tuberculosis and multidrug-resistant tuberculosis cases. These in turn are detrimental to childrenʼs development, workforce employability and healthy ageing. Low funding and inefficient use of public resources limit health system effectiveness. Per capita health spending is one of the lowest in the EU ( ). Over-reliance on hospital care to the detriment of primary and community care points to a misallocation of resources and limits access to quality care (European Commission, 2017a). In addition, Romania is confronted with a substantial deficit of doctors and nurses. It is estimated that since early 2000 around 24 000 Romanian doctors and nurses have left the country (OECD, 2017b). The government expects the salary increases in the health sector in 2017-2018 to slow the emigration of health professionals. Health coverage is de facto not universal, despite being a constitutional right. Social health insurance covers only around 86 % of the population, including those living abroad, with limited access in rural areas and for vulnerable sections of the population. Only half of the Roma are estimated to be covered by public health insurance (FRA, 2016). The uninsured are only entitled to a minimum benefits package. Accordingly, and despite the recent adoption of legislation to regulate community healthcare, the gap in unmet medical needs between the richest and the poorest (6.5 %) remains one of the highest in the EU. The main reasons for unmet needs are costs (including informal payments) and distance. Access to medicines is a major challenge, although efforts are being made to improve the situation. To improve access to innovative drugs, the list of subsidised medicines has been substantially amended by introducing over 100 new medicines since 2014. Nonetheless, efforts to improve access to medicines are complicated by concerns that the low prices of some medicines compared to other EU countries may lead to parallel exports, limiting availability within Romania. The ongoing implementation of the national health strategy is marred by shifting priorities and poor investment planning. Despite recent progress in the preparation of EU-funded investments in healthcare (e.g. the three regional hospitals in Iasi, Cluj and Craiova), the preparation of projects is significantly delayed, especially for the shift towards outpatient care and community-based services. The lack of clear political commitment to the project and involvement in overseeing it and the modest administrative capacity of the Ministry of Health risk generating further delays. A comprehensive human resources strategy announced by the Ministry of Health in December 2016 is still pending (European Commission, 2017a). Graph 3.3.4:Proportion of people with health insurance, registered with a family practitioner Source: Casa Naţională de Asigurări de Sănătate (Romaniaʼs national health insurance office) Romania ranks high in perceived levels of healthcare corruption ( ). Corruption in healthcare covers a broad spectrum: the widespread practice of informal payments, the occurrence of double practice in public and private clinics, as well as corruption in the procurement of medical devices, authorisation and procurement of pharmaceuticals, in the appointment of hospital managers or Ministry of Health officials, and within the healthcare educational system. In this context, concerns remain as to whether the public procurement procedures for the construction of the three regional hospitals will be transparent and effective (European Commission, 2017b). Box 3.3.2: Main challenges for the education system as a driver of growth in Romania Investment in education is low and lacks appropriate mechanisms to support disadvantaged schools. General government expenditure on education as a percentage of GDP is one of the lowest in the EU (3.1 % versus 4.9 % in 2015) and is the third lowest as a proportion of total government expenditure (8.6 % compared to 10.3 % in 2015). Expenditure per student in public and private institutions is also among the lowest in the EU for all levels of education. This underfunding poses a large financial burden to Romanian households ( VI ). There are no targeted programmes to channel additional resources to disadvantaged schools, while correction coefficients remain insufficient, despite a recent increase in the standard cost per student. The amendments to the Fiscal Code may result in the inequalities in local budgets financing school infrastructure getting worse. Capacities to develop and implement evidence-based policies and programmes require strengthening. Human capital does not appear to sufficiently meet the needs of a competitive labour market. In 2016, 23.6 % of the population aged 25-34 had less than lower secondary education compared to an EU average of 16.6 %. Early school leaving, although decreasing ( VII ), is still high. It remains a challenge due to high drop-out rates. The OECD Programme for International Student Assessment (PISA) found that one in four students is a low achiever in all three subjects tested (European Commission 2017d). Achieving excellence in school education adds to the challenge: the proportion of students who demonstrate complex problems solving abilities is low (2 % in reading, 3.3 % in mathematics and 0.7 % in science).The design of second chance programme lacks sufficient flexibility for adult learners while accessibility in rural areas is particularly difficult. The link of education to the labour market remains weak, despite recent measures. Tertiary education is confronted with one of the lowest attainment rates in the EU ( VIII ). Adult participation in learning remains very low, particularly for the low skilled, despite the need for upskilling (1.2 % in 2016 compared to EU-28: 10.8 %). The fragmented system of adult learning lacks a coordinating body, resulting in limited capacity in the implementation of strategic documents. Weak skills governance, including on tracking of graduates, hamper evidence-based decision making. This also impedes on the effective delivery of the Upskilling Pathways Council Recommendation. Despite recent measures, the quality and labour market relevance of vocational education and training (VET) remain largely insufficient. The attractiveness of VET as a career choice and not mainly as a ‘second choice’ option remains rather limited. The employment rate of recent VET graduates remains below the EU average (63.3 % vs 75 % in 2016). Despite continued reforms, especially on dual VET, several challenges remain to be addressed. An integrated and robust system of feedback from employers about the relevance of qualifications is yet to be established. Guidance and counselling services are still under-developed. The alignment between VET and second chance programmes is insufficient as is the provision of alternative pathways. Access to continuing VET learning programmes is hampered by entry requirements linked to the completion of lower secondary education.

3.4. Investment 3.4.1.EXTERNAL COMPETITIVENESS Romaniaʼs net international investment position (NIIP) has continued to improve. The NIIP reached 49.9 % of GDP in 2016, almost 5 percentage points above the 2015 level (Graph 3.4.1). This decrease has taken place despite the widening current account deficit and is mainly due to strong GDP growth. Foreign direct investment (FDI) has remained broadly stable as a share of GDP, while the share of other foreign liabilities declined as Romania repays its external debt, a trend which is expected to continue. Graph 3.4.1:Net international investment position Source: European Commission The trend for FDI flows continues to be volatile. After increasing by almost 50 % in 2016, FDI inflows declined in 2017. In the first 11 months of 2017, FDI inflows were around 9 % lower than in the same period of 2016 (Graph 3.4.2). However, FDI in equity and reinvested earnings increased substantially, with the entire fall in FDI accounted for by debt instruments (intercompany loans). The main sources of FDI inflows into Romania in the first three quarters of 2017 were Cyprus, Luxembourg, the Netherlands, Germany and France. The current account balance has been worsening recently. Despite increasing export market shares (see below), the growth of exports was outpaced by that of imports. In the first 10 months of 2017, imports of consumer goods, intermediate goods, and capital goods all increased by double digit rates. The balance of trade services, driven mainly by exports of transportation and IT services, remained positive but did not offset the negative and widening deficit in the trade of goods. The balance of primary incomes remained negative, reflecting mainly the outflow of investment income linked to the countryʼs negative NIIP. The balance of secondary income, which consists mainly of remittances, continues to be positive but was outweighed by the negative balance of primary income. Overall, the current account deficit is estimated to have increased to around 3 % of GDP in 2017. Graph 3.4.2:FDI flows by investment type Source: European Commission Unit labour costs (ULC) further increased in 2017 as the growth of compensation to employees outpaced that of productivity. Productivity convergence has been substantial over the past two decades. Labour productivity per hour worked increased from 22 % of the EU-28 average in 2000 to approximately 54 % in 2015. However, productivity levels continue to be the second lowest in the EU. The increase in real compensation per employee (27.8 %) was broadly in line with that of labour productivity (25.6 %) between 2011 and 2016. In 2017, the growth of real compensation per employee is estimated to have been more than double that of productivity (Graph 3.4.3). With Romaniaʼs nominal exchange rate broadly stable, the rise in unit labour costs has also been reflected in a real exchange rate appreciation. The real effective exchange rate, as deflated by unit labour costs has appreciated by around 7.8 % between Q1-2016 and Q3-2017. Graph 3.4.3:Nominal unit labour cost, growth breakdown Source: European Commission Non-cost competitiveness has improved. Between 2011 and 2016 the share of top quality products in total export values increased by almost 50 %. Over the same period, the value share of low-quality products diminished substantially (Graph 3.4.4). Quality gains took place across Romaniaʼs main export industries but were most conspicuous for computer, electronic and optical products. Graph 3.4.4:Share of export value by quality category, in manufacturing Source: European Commission based on Comext and Orbis Export performance has been relatively strong in recent years. Between 2000 and 2016 export market shares increased almost fourfold, reflecting the contained evolution of unit labour costs after the crisis. Since 2016, however, unit labour costs began to increase as the growth in workersʼ compensation raced ahead of growth in productivity (see below). A continuation of this trend could threaten further increases in export market shares, unless accompanied by structural reforms sustaining a transition to higher value-added products, integration in global value chains and access to new export markets . Graph 3.4.5:Export market share by industry Source: European Commission Export market share gains in 2016 came mainly from traditional export industries. The chief export industry, machinery and equipment, accounted for almost half of the increase in export market shares of goods in 2016 (Graph 3.4.5). Substantial gains also came from the vehicle industry, Romaniaʼs third largest industry in terms of share of exports. These gains came almost entirely from market share gains within these industries rather than from the sectors' global trade dynamism. Export market shares in services continued to expand as well, with most gains coming from transport and telecommunications, computers and information services. Graph 3.4.6:Export market share by country Source: European Commission Geographically, the strong trade performance since 2011 is mainly due to market share gains in western Europe. Romaniaʼs chief export destinations between 2011 and 2016 were Germany, Italy and France. Over this period, Romania gained market shares in all three countries. Trade with each of them had a positive contribution to Romaniaʼs global export market share even though all three of them have seen their share of global imports declining (Graph 3.4.6). Romania has captured an increasing part of trade related to EU production chains. The Romanian economy continues to benefit from its strong integration in EU value chains ( ). An increasing specialisation in regional European value chains has enabled Romania to respond to the shift in global demand to emerging economies. This development is in contrast with the general trend. Since 2011, global value chain trade intensity has continued to grow and now accounts for more than half of all value chain trade, while the share of regional value chain trade has declined. The pattern for Romania is the opposite as it is the share of regional value chain integration that has continued to grow more strongly, particularly in manufacturing and business services (Graph 3.4.7). Graph 3.4.7:Changes in regional and global value chain trade Source: Stehrer et al. (2017) based on World Input-Output Databse release 2016 3.4.2.Public Investment and infrastructure

Investment spending needs improved efficiency to delive