PROPOSAL FOR A COUNCIL DECISION PROVIDING MEDIUM-TERM FINANCIAL ASSISTANCE FOR ROMANIA
Date: 1991-04-12
Institutions: European Commission
Subjects: Community loan, International Monetary Fund, Romania, financial aid, medium-term credit, reflation

COMMISSION OF THE EUROPEAN  COMMUNITIES 

C0M(91) 129 final 

Brussels,12 April 1991 

Proposal  for a 

COUNCIL  DECISION 

providing  medium-term  financial  assistance 

for  Romania 

(presented by the Commission) 

- 2 -

EXPLANATORY MEMORANDUM 

Romania's request for financial support 

After a  long period of political  turmoil  following the collapse of the 

Ceauscescu  regime  in December  1989, the Romanian  authorities  have now 

embarked upon a comprehensive reform programme aimed at stabilising the 

economic situation and  initiating the process of  transformation from a 

highly  centralised  planned  system  to  a market  oriented  economy.  The 

starting  conditions  for  this  process  are  unfavourable,  however.  The 

previous  regime's  overriding  policy  concern  of  repaying  the  foreign 

debt  through a policy of  import compression  has  left  the country with 

an obsolete capital  stock and  huge pent up demand  for  consumer goods. 

As a result, major  imbalances started  to appear  as the command system 

was  abolished  and  resources  were  redirected  towards  meeting  the 

consumption needs of the population. 

In  support  of  the  economic  reform  and  adjustment  programme,  the 

authorities  have  requested  assistance  from  the  IMF  in  the  form  of  a 

stand-by  arrangement  as well  as drawings under  the oil-import  element 

of  the  Compensatory  and  Contingency  Financing  Facility.  The  IMF  has 

concluded  the  negotiations  with  the  Romanian  authorities  and  the 

Executive Board  is expected to consider  the stand-by arrangement at the 

beginning of April. As a precondition for approving the arrangement the 

IMF has formulated a number of prior actions which have to be taken by 

the Romanian authorities. 

In addition to resourses  likely to be forthcoming  from the  IMF and the 

World  Bank,  the  authorities  have  requested  complementary  financial 

assistance from the Group of Twenty Four to close a remaining financing 

gap,  which  is  estimated  at  some  $ 1 billion.  If  such  additional 

financing  would  not  be  found,  the  IMF might  have  to  renegotiate  the 

programme, which could delay  its  implementation.  Inadequate  financing 

would  also  risk  jeopardising  the  success  of  the  reform  programme  by 

requiring additional cut-backs  in the already heavily constrained  level 

of imports. 

-  3 -

The economic  reform  programme 

During  1990,  the  Romanian  government  already  implemented  several 

measures  to  facilitate  the 

introduction  of 

its  macro-economic 

adjustment  programme. These measures  included  the elimination  of  almost 

three  quarters of  the stock of  unservicable debts of  enterprises  to  the 

banking  sector,  and  two  devaluations of  the  lei  by  a  cumulative  60%  in 

foreign  currency  terms. 

The  government  also  began  to  introduce  a  number  of  economic  reforms. 

Since  November  1990,  a  partial  price  liberalisation  and  adjustment  of 

controlled  prices  have  brought  prices  of  most  imported  inputs  broadly 

in  line  with  world  market  prices  at  the  current  exchange  rate.  As  a 

consequence,  at  the  end  of  January  the  consumer  price  index  was  about 

50% higher  than  the  level  prevailing  in October  last  year.  Furthermore, 

a  separation  of  the  central  and  commercial  banking  functions  of  the 

National  Bank  of  Romania  constituted  a  first  step  towards  the  creation 

of  a market  based  financial  system  at  the same  time as  it enhanced  the 

authorities' ability  to enforce monetary  control. 

In  continuation  of  these  initial  measures,  the  complete  policy 

programme  currently  under 

implementation  aims  at  reforming  the 

organisation  of  the  economy 

into  a  market-based  system  while 

eliminating  or  reducing  major  economic  imbalances  that  might  jeopardize 

the  reform  effort.  The  programme's  stabilisation  objectives  for  1991 

are  to  contain  the  decline  in output,  to arrive  at  a  rate  of  inflation 

of  15% per  annum  by  the end of  the year  —  after  an  initial  significant 

jump  in the price  level  —  and  to rebuild  the  level  of  foreign  currency 

reserves  to  some  $  1  billion  by  the  end  of  1991.  To  achieve  these 

objectives,  the  authorities  intend  to  maintain  a  tight  fiscal  policy-, 

to  adopt  a  flexible  interest  rate  policy;  to  ensure  wage  restraint 

through  incomes  policy  and  to  follow  an  appropriate  exchange  rate 

po11cy. 

The  structural  reforms  include  a  general  liberalisation  of  foreign 

trade;  extension  of  price  liberalisation  to  a  greater  number  of  goods 

and  services; privatisation and  restructuring of  state enterprises;  and 

financial  sector  reform. 

-  4 -

With  respect  to  fiscal  policy,  the  government  intends  to  maintain  a 

strict  financial  discipline  in  the  general  government  sector  through 

the  adoption  of  a  very  small  deficit  target  (1.5%  of  GDP).  The 

government  also plans  to  introduce a value added  tax  by  1992  to  replace 

the  existing  turnover  tax  system,  and  is  committed  to  introduce  a 

personal  income  tax  this year. 

To  prepare  for  the  process  of  privatisation,  the  authorities  have  also 

begun  to  transform  most  state  owned  companies  into  commercial 

enterprises,  with  only  a  limited  number  to  be  converted  into  public 

entities  remaining  under  state  ownership.  Several  measures  that  would 

distribute  shares  among  the  population  are  being  explored,  including  a 

free  voucher  system  and  the  sale  of  shares  through  public  auctions. 

Furthermore,  legislation  will  be  developed  to  strengthen  financial 

discipline  of  enterprises  and  to  discourage  bank  credit  to  loss making 

firms. 

In  the  area  of  price  liberalization,  the  authorities  have  decided  to 

carry  out  a  second  major  stage  of  the  price  reform  process on  April  1, 

1991.  This  will  entail  the  liberalisation  of  prices  on  those  basic 

consumer  goods  that  were  not  affected  by  the  first  stage  of  price 

reform  in  November.  In  addition,  the  government  is  committed  to 

adjusting  prices  of  imported  goods  (including  energy)  to  any  future 

changes  in  the  exchange  rate  in  order  to  keep  them  at  international 

levels. 

Incomes policy will  be oriented  towards offsetting  part  of  the  impact 

of  the  price  reform  by  authorising  compensation  payments  for  workers. 

To  restrain  wage  growth,  however,  a  tax-based  incomes  policy  has  been 

introduced  according  to which  a  tax  will  be  levied  on  enterprises  that 

grant  wage  increases  in excess of  government  guidelines. 

External  policies  will  be  characterised  by  important  changes  in  the 

trade  and  exchange  system.  The  authorities 

intend  to  abolish 

quantitative  restrictions  on  imports,  and  export  licensing  will  be 

limited  to  products  subject  to  domestic  price  controls  or  imported  at 

the official  exchange  rate. 

-  5  -

With  respect  to  the  exchange  regime,  in  addition  to  the  recent 

devaluations  of  the  official  rate,  in  February  the  authorities 

introduced 

an  interbank  foreign  exchange  market  with  a  freely 

determined  exchange 

rate.  Enterprises  will  have  the  possibility  to 

sell  part  of  their  export 

earnings  on  this  market.  So  far,  however, 

the  amount  of  foreign  currency  available  for  the  free market  has  been 

quite  modest,  which  helps  to  explain  the  large  gap  that  persists 

between  the  official  exchange  rate  and  the  free  rate.  The  spread 

between  the  two  exchange  rates  is  monitored  closely  and  the 

authorities  are  committed  to  unify  the  rates  as  soon  as  possible. 

Major  progress  in this direction  is expected  to be achieved  before  the 

IMF stand-by  arrangement  takes  effect. 

The  need  for  additional  financial  support 

Like  other  countries  in  Central  and  Eastern  Europe,  Romania  is  faced 

with  exceptionally  large  external  shocks  in  1991.  The  disintegration 

of  trade  relations  with  other  CMEA  countries,  aggravated  by  their  own 

economic  difficulties,  is causing  a  sharp  drop  in trade  volumes  in  the 

whole  region,  which  is also  being  felt  by  Romania.  The  shift  to  world 

market  prices  in  intra-Comecon  trade  has  also  had  an  adverse  effect  on 

Romania's  terms  of  trade,  although  the  impact  is  likely  to  be  smaller 

than  in other  Central  and  Eastern  European  countries.  The  Gulf  crisis 

has aggravated  the situation  further, partly  by  reducing  the chances of 

repayment  through  oil  deliveries  of  outstanding  credits  to  Iraq 

amounting  to some $  1.7  billion. 

Apart  from  these  external  influences,  the  volume  of  exports  is  likely 

to be constrained  by  the disruption of  domestic  production  while  strong 

pent-up  demand  for  imports  is  likely  to persist.  In these  circumstances 

it  is clear  that  a major  adjustment  effort  will  be  required  to  contain 

the  current  account  deficit  at  a  level  of  some  $  1.7  billion, which  is 

the  target  underlying  the  policy  programme1.  Taking  into  account  the 
need  to  replenish  external  reserves,  the overall  financing  requirement 

is  estimated  at  some $ 2.7  billion. 

To  finance  the projected  deficit,  the Romanian  authorities will  have  to 

rely  primarily  on  credit  from  official  sources.  Both  direct  foreign 

investment,  commercial  bank  lending  and  suppliers  credit  are  likely  to 

remain  modest  this  year.  Some  $  1.1  billion  of  the  financing 

requirement  is  expected  to  be  covered  by  the  World  Bank  and  the  IMF. 

The  assistance  from  the  IMF  would  include  access  under  the  oil  window 

of  the CCFF  ($ 360 million) and  a stand-by  arrangement  ($ 455 million). 

To  cover  the  remaining  financing  gap  of  $  1  billion  the  Romanian 

government  has  requested  complementary  financial  assistance  from  the 

Community  and  the Group of  Twenty  Four. 

Main  features of  the  loan 

The  Commission  is proposing  that  the Community  would  participate  up  to 

ecu  375 million  in a medium-term  financial  support  package  from  the  G-

24  and  possibly  other  countries,  the  total  amount  of  which  would  be 

some  ecu 750  million.  This  assistance  is expected  to  take  the  form  of 

loans, with  a maximum  duration of  seven  years. 

The  loan  the Commission  is envisaging  will  be closely  linked  to the  IMF 

programme  and  would  be  disbursed  in  two  tranches,  the  first  tranche 

being  subject  to approval  of  the  IMF agreement,  the  second  one  -  which 

is  to  be  disbursed  in  the  fourth  quarter  of  the  year  -  subject  to 

compliance  with  a  number  of  performance  criteria  which  are  to  be 

discussed  with  the  Romanian  government  in  consultation  with  the 

Monetary  Committee. 

account 

The  1991  current 
target  of  $-1.7  billion  covers 
transactions  with  both  the  convertible  currency  area  and  the  CMEA 
area.  In  1990,  Romania  registered  an  estimated  deficit  of  $1.7 
billion  in convertible  currency  and  the approximate  equivalent  of a 
$1.4 billion deficit  in non-convertible  currency. 

-  7 -

The  Community  would  provide  the  funds  through  market  borrowing  with  a 

guarantee  by  the  Community  budget.  Romania  would  subsequently  borrow 

from  the  Community.  The  borrowing  and  lending  operations  will  be 

matched  and without  any commercial  risk  for  the Community. 

- 8 -

Proposal for a 

COUNCIL PEdSIQN 

providing medium-term financial assistance 

for Romania 

THE COUNCIL OF THE EUROPEAN COMMUNITIES, 

Having  regard  to  the  Treaty  establishing  the  European  Economic 

Community, and  in particular Article 235 thereof, 

Having  regard  to the proposal  from the Commission1  submitted  following 

consultations within the Monetary Committee, 

Having regard to the opinion of the European Parliament2, 

Whereas  Romania  is  undertaking  fundamental  political  and  economic 

reforms and has decided to adopt a market economy model; 

Whereas  the  said  reforms  are  already  under  implementation  and  their 

financial  support  from the Community will strengthen mutual  confidence 

and bring Romania closer to the Community; 

Whereas,  following  the  changes  in  the  international  environment, the 

Romanian economy  is in deep recession and facing external  shocks which 

might  deteriorate  sharply  its  balance  of  payments  and  weaken  its 

precarious reserve position; 

Whereas  the  Romanian  authorities  have  requested  financial  assistance 

from the  International Monetary Fund  (IMF), the  Group of 24 Industrial 

Countries  (G-24)  and  the  Community;  whereas,  over  and  above  the 

estimated  financing  which  could  be provided  by  the  IMF and  the World 

Bank, a financial gap of some ECU 750 million remains to be covered  in 

1991, inorderto  prevent a further  erosion  of  Romania's  uncertain 

- 9 -

reserve position and  avoid  an additional  degree of  import  compression 

which  could  seriously  jeopardise  the  achievement  of  the  policy 

objectives underlying the Government's reform effort; 

Whereas  the Commission as coordinator  of  assistance  from  the G-24 has 

invited them and other third countries to provide medium-term financial 

assistance to Romania; 

Whereas the grant by the Community of a medium-term  loan to Romania  is 

an  appropriate  measure  to  support  the  balance  of  payments  and  to 

strengthen the country's reserve position-, 

Whereas the Community  loan should be managed by the Commission; 

Whereas the Treaty does not provide, for the adoption of this Decision, 

powers other than those of Article 235, 

HAS DECIDED AS FOLLOWS : 

Article 1 

1.  The Community shall grant to Romania a medium-term  loan facility of 

a  maximum  amount  of  ECU  375 million  in principal, with  a maximum 

average  duration  of  seven  years,  with  a  view  to  ensuring  a 

sustainable  balance-of-payments  situation  and  strengthening  the 

reserve position. 

2.  To this end the Commission  is empowered to borrow, on behalf of the 

European  Economic  Community, the necessary  resources  that will  be 

placed at the disposal of Romania  in the form of a loan. 

3.  This  loan  will  be managed  by  the Commission  in full  consultation 

with  the  Monetary  Committee  and  in a  manner  consistent  with  any 

Agreement reached between the IMF and Romania. 

- 10 -

Article 2 

1.  The  Commission  is  empowered  to  negotiate  with  the  Romanian 

authorities,  after  consultation  with  the Monetary  Committee,  the 

economic  policy  conditions  attached  to the  loan. These  conditions 

shall  be consistent  with  any  agreement  as  referred  to  in Article 

1(3) and with arrangements made by the G-24. 

2.  The Commission shall verify at regular  intervals,  in collaboration 

with the Monetary Committee and  in close coordination with G-24 and 

the  IMF, that the economic policy  in Romania  is in accordance with 

the  objectives  of  this  loan  and  that  its  conditions  are  being 

fulfilled. 

Article 3 

1.  The  loan shall be made available to Romania  in two  instalments. The 

first  instalment  shall  be  released  as  soon  as  a  "stand-by 

arrangement" has been concluded between Romania and the  IMF and the 

second  instalment not before the fourth quarter of 1991 subject to 

the provisions of Article 2(2). 

2.  The funds shall be paid to the National Bank of Romania. 

Article 4 

1.  The borrowing and  lending operations referred to in Article 1 shall 

be carried out  using  the same value date and must  not  involve the 

Community  in the transformation of maturities,  in any exchange or 

interest-rate risk, or  in any other commercial  risk. 

2.  The  Commission  shall  take  the  necessary  steps,  if  Romania  so 

decides, to include  in the loan conditions, and also to exercise an 

early repayment clause. 

- 11 -

3.  At  the  request  of  Romania,  and  where  circumstances  permit  an 

improvement  in the  interest  rate on  the  loans, the Commission may 

refinance all or part of  its initial  borrowings or  restructure the 

corresponding  financial  conditions.  Refinancing  or  restructuring 

operations  shall  be carried out  in accordance with  the conditions 

set out  in paragraph  1 and shall  not have  the effect of extending 

the average duration of  the borrowing  concerned or  increasing  the 

amount,  expressed  at  the  current  exchange  rate,  of  capital 

outstanding at the date of the refinancing or restructuring. 

4.  All  related  costs  incurred  by  the  Community  in  concluding  and 

carrying  out  the operation  under  this Decision  shall  be  borne by 

Roman I a. 

5.  The Monetary  Committee  shall  be  kept  informed  of  developments  in 

the operations  referred  to  in paragraphs  2 and  3 at  least once a 

year. 

Article 5 

At  least once a year  the Commission shall  address  to the European 

Parliament  and  to  the  Council  a  report,  which  will  include  an 

assessment, on the implementation of this Decision. 

Done at Brussels, 

For the Council 

The President 

- 12 -

FINANCIAL RECORD 

1.  Budget  Une concerned 

Article  ( 

)  loan  guarantee  for  aid  to  Romania  (to  be  created 

through an amending and/or supplementary Budget). 

2.  References (legal base) 

Article 235 of the Treaty 

3.  Classification of the Expenditure 

Obi Igatory 

4.  Description and Justification for the action 

a)  Description of the action 

Provision  of  a  guarantee  from  the  Community  for  a  loan  to 
Romania  in  view  of  supporting  its  balance  of  payments  and 
strengthening the country's reserve position. 

b)  Justification for the action 

The  G24  and  the  Council  of  the  EEC  have  endorsed  the 
principle of providing assistance  in response to a request 
from Romania. 

The budget entry  Is intended to provide a budgetary support 
for guarantee offered by the European Community  to cover a 
loan extended to Romania. 

5.  Nature of the expenditure and method of calculation 

a)  Nature of the expenditure 

A guarantee to a loan to Romania. 

b)  Method of calculation 

A token entry  is proposed  given  that  the amount  and  timing of 
any  call  on  this  budget  line cannot  be  calculated  in advance 
and because  it  is expected  that  this budget guarantee will not 
be cal led. 

6.  Effect of the action on  intervention credits 

Only  in the case of an effective call on the guarantee. 

-  13 -

7.  Financing of  intervention expenditure 

Endowment  of  the  line  by  transfer,  by  reutilisation  of 
reimbursed  amounts  (Article  27(3) of  the  Financial  Regulation 
of  1977), or  by amended  and/or  supplementary  budget. 

In  order  to  fulfill  its  obligations,  the  Commission  can 
provisionally  ensure  the  debt  service  with  funds  from  its 
treasury.  In  that  case,  Article  12  of  the  Council  Regulation 
(EEC, Euratom) no. 1522/89 of  29.5.1989 will  apply. 

<«SN 1254-1475 

C0M(91) 129 final 

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