REPORT FROM THE COMMISSION TO THE COUNCIL Commission report to the Council pursuant to Article -11(2) of Regulation (EC) No 1466/97 on the enhanced surveillance mission in Romania, of 10-11 April 2018
Date: 2018-05-23
Institutions: Directorate-General for Economic and Financial Affairs, European Commission
Subjects: Romania, budget deficit, economic convergence, economic reform, financial control, gross domestic product, multilateral surveillance, public debt, public finance, stability programme

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  EN 

   EUROPEAN COMMISSION  Brussels, 23.5.2018  COM(2018) 319 final  REPORT FROM THE COMMISSION TO THE COUNCIL Commission report to the Council pursuant to Article -11(2) of Regulation (EC) No 1466/97 on the enhanced surveillance mission in Romania, of 10-11 April 2018  
 
 
This  report  on  an  enhanced  surveillance  mission  to  Romania  is  transmitted  to  the  Council 
pursuant to Article -11(4) of Regulation (EC) No 1466/971. As foreseen by Article -11(5) of 
Regulation  (EC)  No  1466/97,  the  provisional  findings  of  that  mission  have  been  previously 
transmitted to Romanian authorities for comments. 

Romania – Significant Deviation Procedure 
enhanced surveillance mission, 10-11 April 2018 

Report 

1. Introduction 

As a consequence of the significant deviation from its medium-term budgetary objective 
(MTO) in 2016, a Significant Deviation Procedure (SDP) was launched for Romania in 
spring 2017. On 22 May 2017, the Commission issued a warning to Romania and proposed 
to  the  Council  to  launch  a  SDP.  In  its  SDP  recommendation,  of  16  June  2017,  the  Council 
asked  Romania  to  take  measures  to  ensure  that  the  nominal  growth  rate  of  net  primary 
government expenditure does not exceed 3.3% in 2017. It corresponds to an annual structural 
adjustment of 0.5% of GDP, which is the minimum effort required under the preventive arm 
of the Stability and Growth Pact (SGP).  

As a consequence of no effective action taken by Romania, the Council issued a revised 
SDP  recommendation  in  December  2017.  Based  on  the  September  2017  enhanced 
surveillance mission findings and on the report submitted by the authorities, the Commission 
concluded  that  the  authorities  did  not  intend  to  act  upon  the  SDP  recommendation,  with 
efforts solely focused on avoiding breaching the 3% of GDP headline deficit reference value. 
Therefore, on 5 December 2017 the Council concluded that no effective action had been taken 
by  Romania  and  issued  a  revised  recommendation.  The  Council  asked  Romania  to  take 
measures to ensure that the nominal growth rate of net primary government expenditure does 
not exceed 3.3% in 2018, corresponding to an annual structural adjustment of 0.8% of GDP in 
2018. It translated into the need to adopt measures of a total structural yield of 1.8% of GDP 
in 2018, as compared to the baseline from the Commission's autumn 2017 economic forecast. 
Romania reported to the Council on action taken on 20 April, after the 15 April deadline. The 
Commission's assessment of the report is  being published  as part  of the European Semester 
Spring package. 

According to the Commission projections, following the usual no-policy change scenario, 
both the headline and structural deficit are likely to increase in 2018. The expansionary 
fiscal  policy  is  set  to  continue  in  the  near  future.  The  2018  budget  aims  at  a  general 
government deficit of 3% of GDP, which implies a further increase of the structural deficit in 

1 Council Regulation (EC) No 1466/97 of 7 July 1997 on the strengthening of the surveillance of budgetary positions and the surveillance 
and coordination of economic policies, OJ L 209, 2.8.1997, p. 1 

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the  presence  of  an  increasing  output  gap.  However,  the  budget  was  built  on  an  optimistic 
macroeconomic  scenario  and  likely  overestimates  tax  revenues.  The  Commission  projects  a 
headline deficit of 3.4% of GDP in 2018, under the usual no-policy change scenario. Public 
wages have been significantly increased by the unified wage law (UWL) enacted in summer 
2017. Old-age pensions will continue to be increased beyond the standard pension indexation 
mechanism. Moreover, the personal income flat tax (PIT) rate was cut from 16% to 10% from 
January  2018.  On  the  other  hand,  a  shift  of  social  security  contributions  from  the  current 
22.75%  for  employers  and  16.5%  for  employees  to  2.25%  and  35%,  respectively,  will 
partially  contain  the  fiscal  cost  of  the  2018  increases  of  gross  wages  in  the  public  sector. 
Additionally, the 2018 budget contains a cut of the share of social contributions transferred to 
the  second  pillar  of  the  pensions  system,  with  a  positive  impact  on  general  government 
revenues. 

The enhanced surveillance mission by the Commission took place 10-11 April 2018, and 
thus  prior  to  the  submission  of  the  above-mentioned  report  as  required.  Subsequent 
reporting  in  line  with  legislative  requirements  is  therefore  not  taken  into  account  in  this 
mission report. The mission was carried out on the basis of Article -11(2) of Regulation (EC) 
1466/97. The mission met the Minister of Finance, Mr. Eugen Teodorovici, the governor of 
the National Bank of Romania, Mr. Mugur Isărescu, as well as members of the Fiscal Council 
of Romania. The aim of the mission was to learn in detail about the fiscal actions planned by 
the authorities, to increase the visibility of the fiscal risks and to encourage compliance with 
the SGP. 

2. Findings of the mission 

It  is  the  mission's  understanding  that  the  Romanian  authorities  do  not  intend  to  act 
upon the SDP recommendation. On behalf of the Ministry of Finance and the government, 
Minister  Teodorovici  confirmed  that  the  target  for  2018  remains  the  headline  deficit  of  just 
below 3% of GDP. Given a positive and increasing output gap, this indicates a deterioration 
of  the  underlying  structural  deficit,  contrary  to  the  Council  recommendation.  Minister 
Teodorovici  explained  that  he  is  bound  by  the  measures  contained  in  the  government 
programme, which are fully reflected in the budget in terms of both revenue and expenditure. 
He  also  expressed  confidence  that  the  absorption  of  the  EU  funds  will  pick  up  this  year  as 
compared  to  2017  (which,  however,  would  increase  co-financing  obligations).  Minister 
Teodorovici  added  that  to  respect  the  3%  of  GDP  headline  deficit  threshold  in  2018  will 
require  additional  measures,  which  Romania  would  specify  in  the  report  on  action  taken. 
Minister Teodorovici indicated that those measures would concern improving the functioning 
of  the  tax  and  customs  administration,  in  particular  by  introducing  a  new  IT  system.  The 
mission  stressed  that  the  report  on  action  taken,  due  by  15  April,  must  contain  details  and 
quantification on the planned measures. The mission also noted that the cash budget execution 
data for the first quarter of 2018 shows a deteriorated balance as compared to the same period 
of the previous year (a deficit of 0.5% of GDP in 2018Q1 compared to a surplus of 0.2% of 
GDP  in  2017Q1).  Minister  Teodorovici  argued  that  the  deficit  outcome  is  in  line  with 

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projections, and is largely due to a one-off expenditure in the defence sector. Finally, Minister 
Teodorovici  informed  that  he  will  push  to  change  the  practice  of  late  adoption  of  the  State 
budgets (usually in December of the preceding year) and will try to adopt the 2019 budget at 
an earlier date.  

The government is considering a further reversal of the 2008 systemic pension reform, 
which introduced the second pension pillar. The authorities have already reduced, as part of 
the  2018  budget,  the  share  of  social  contributions  transferred  to  the  second  pension  pillar. 
According  to  public  statements,  the  government  is  considering  to  make  the  transfers  to  the 
second pension  pillar  optional,  and to make  a decision by end-June  2018, after consultation 
with stakeholders. Those transfers amount to around RON 7 billion annually (around EUR 1.5 
billion; 0.8% of GDP). Such a measure would decrease the fiscal deficit in the short term, as 
the second pension pillar is classified outside the general government under ESA. 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,  such  a  reversal  could  have  negative  implications  for  the  viability  of  the  pensions 
system and for the development of capital markets. Making the second pension pillar optional 
would deprive Romania from the possibility of invoking the systemic pension reform clause 
under the SGP.  

The National Bank of Romania (NBR) expressed concerns regarding the impact of the 
expansionary,  pro-cyclical  fiscal  policy  on  the  current  policy-mix.  Romania  is  in  the 
middle  of  a  large  economic  upswing  while  the  fiscal  position  of  Romania  has  been  highly 
expansionary.  As  such,  Romania's  fiscal  policy  appears  imprudent  and  strongly  conditions 
monetary  policy.  According  to  NBR  projections,  the  general  government  deficit  would 
increase above 3% of GDP in 2018 in a no-policy change scenario. The NBR stressed that the 
3% of GDP headline deficit threshold is well understood in Romania, while there is no public 
awareness of the preventive arm of the SGP. There is space for fiscal measures on the revenue 
side, given that the departure from the MTO was driven by indirect tax cuts, the tax rates are 
low and tax avoidance is high.  

The  Fiscal  Council  shared  the  Commission's  concerns  regarding  the  fiscal  outlook. 
According  to  the  Fiscal  Council,  the  structural  deficit  will  substantially  deteriorate  in  2018 
and  the  headline  deficit  is  projected  to  breach  the  3%  of  GDP  threshold  in  the  absence  of 
countervailing fiscal measures. The scope for cuts to public investment in 2018 is limited as 
public investment was already at a historically low level in 2017 and EU funds absorption has 
been picking up in 2018, implying higher co-financing obligations.  

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STATISTICAL ANNEX 
(Forecast data based on the European Commission 2018 spring forecast) 2 

Table 1: Key economic indicators overview 2010-2019 

2 The Commission forecast will be updated in November 2017. 

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201020112012201320142015201620172018*2019*Gross Domestic Product (annual percentage change, unless otherwise indicated)Nominal GDP (in bn RON)5305625956376687137628589441 020Real GDP-2.82.01.23.53.14.04.86.94.53.9Private Consumption-3.51.12.10.74.75.97.610.14.94.2Public Consumption-4.80.20.3-4.60.80.23.10.71.71.3Gross fixed capital formation0.16.23.6-5.43.27.4-2.04.77.46.9Exports15.111.91.019.78.04.68.79.77.56.8Imports12.510.1-1.88.88.78.09.811.38.27.4Contribution to GDP growthDomestic demand-3.02.42.3-1.73.85.54.67.55.04.4Inventories0.3-0.3-2.21.6-0.3-0.10.70.20.00.0Net exports-0.10.01.13.6-0.3-1.4-0.5-0.7-0.5-0.5PricesHICP inflation (average)6.15.83.43.21.4-0.4-1.11.14.23.4HICP inflation (year-end, quarterly)7.83.44.71.31.4-1.0-0.11.93.03.1Labour marketTotal employment ('000 persons)9 1569 0828 6458 5698 6358 5268 4498 6688 7488 753Unemployment rate (harmonised:15-74)7.07.26.87.16.86.85.94.94.54.4General Government Accounts (in percent of GDP)Govn deficit, cash definition **-6.3-4.2-2.5-2.5-1.7-1.3-2.4-2.9-3.0-2.6General Government deficit, ESA 2010 definition-6.9-5.4-3.7-2.1-1.3-0.8-3.0-2.9-3.4-3.8General Government gross debt, ESA 2010 definition29.734.036.937.539.137.737.435.035.336.4Balance of payments (in percent of GDP)Current account balance ***-4.6-4.4-4.2-0.6-0.1-0.6-2.1-3.5-3.6-3.9Trade balance***-6.2-5.6-5.0-0.8-0.4-0.6-0.9-2.1-2.4-2.6Capital and financial account balance-4.2-3.0-1.13.34.73.93.4-0.6n.a.n.a.FDI balance-1.8-1.3-1.9-2.0-1.8-1.8-2.7-2.4n.a.n.a.Net international investment position-62.8-64.5-67.9-61.7-56.8-53.7-49.3-45.7n.a.n.a.Foreign exchange reserves (in bn Euro)31.632.731.132.532.232.233.032.3n.a.n.a.Gross external debt75.568.063.057.454.749.8n.a.n.a.Monetary and exchange rate developmentsBroad money M3 (annual % change, end of the period)6.96.62.78.88.49.39.711.6n.a.n.a.NBR policy rate (in %, end of period)6.256.005.254.002.751.751.751.752.00n.a.Exchange rate (lei/euro, end of period)4.284.324.434.484.484.524.544.664.66n.a.REER (to IC37, Unit Labour Costs deflator, % change)0.82-6.46-5.170.943.49-5.943.165.98n.a.n.a.    * Forecasts or latest values  ** Forecasts or latest values2018 and 2019 are projections from the Romanian authoritiesNotes:*** Current account and trade balances are reported based on the latest Commission forecast using National Accounts Data. 
 
 
 
 
 
 
 
 
 
                                                            
Table 2: General government accounts 2016-2019 (% of GDP) 

Table 3: General government balance cyclical adjustment 2010-2019 (% of GDP) 

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ESA code201620172018*2019*   1. Taxes on production and importsD211.310.310.410.5   2. Current taxes on income and wealthD56.56.14.74.8   2a.  - of which, paid by households and NPISH3.63.62.12.1   2b.  - of which, paid by corporations2.92.52.62.7   3. Social contributionsD618.89.310.710.6   4. Sales and other current revenue3.63.63.73.7   5. Total current revenue (1+2+3+4)30.229.329.629.5   6. Compensation of employeesD18.99.710.410.3   7. Intermediate consumptionP25.34.94.94.9   8. Social transfers in kind supplied via market producers0.90.80.80.8   9. Social transfers other than in kindD6210.710.810.811.0  10. InterestD411.51.31.41.4  11. SubsidiesD30.40.40.40.4  12. Other current expenditure1.82.12.22.4  13. Total current expenditure (6+7+8+9+10+11+12)29.530.130.831.3  14. Gross saving (5-13)B8g0.7-0.8-1.2-1.7  15. Capital Transfers, receivedD91.51.21.31.5  16. Gross fixed capital formationP513.62.82.93.1  17. Other capital expenditure1.50.50.60.5  18. Total government revenue (5+15)TR31.630.530.931.1  19. Total government expenditure (13+16+17)TE34.633.434.334.9  20. Net lending (+) / net borrowing (-) (18-19)B9-3.0-2.9-3.4-3.8Note:*European Commission Spring 2018 ForecastSource: European Commission201020112012201320142015201620172018*2019*Government balance (ESA-2010)-6.9-5.4-3.7-2.1-1.3-0.8-3.0-2.9-3.4-3.8Primary balance-5.4-3.8-1.9-0.40.30.8-1.5-1.6-2.0-2.4Cyclically adjusted balance-5.3-4.0-1.9-0.9-0.30.1-2.5-3.3-3.9-4.2Cyclically adjusted primary balance-3.8-2.4-0.20.81.41.7-1.0-2.0-2.4-2.7Structural government balance-5.4-2.9-2.5-0.9-0.3-0.2-2.1-3.3-3.8-4.2GDP growth-2.82.01.23.53.14.04.86.94.53.9Potential growth1.51.52.12.02.53.43.84.14.34.2Output gap-4.8-4.2-5.1-3.6-3.1-2.5-1.51.21.41.1Note:*European Commission Spring 2018 ForecastSource: European Commission