Navigating Budgetary Challenges: Political Stability, Investments, and Deficit Reduction
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Benefiting from an unusual context of political stability (which we expect to continue) and positive investor sentiment, the economy continues to perform decently, with help from increasing public investment spending. Yet, having not used the high GDP growth from 2021-22 to accelerate deficit reduction, the government finds itself in an uncomfortable budgetary position. Sticking to the 4.4% of GDP budget deficit target this year is proving more than just challenging, as public wage requirements are catching up after two years of high inflation, while budget revenues are not increasing as planned. Historically, cutting investments was the general solution to stick within the deficit, hence we do not exclude this option. And this is just for 2023 budget. Moving lower to a 3.0% of GDP deficit in 2024 as per current strategy looks very ambitious to say the least.
Forecast summary
GDP (YoY%) and components (ppt)
Investments offsetting the slowdown in consumption
With a bit of help from the external context as well, which in the end hasn’t performed as badly as expected, the economy remained on track and continued to post solid quarterly advances throughout 2022. The environment is clearly weaker in 2023, with a quasistagnant first quarter growth, despite hard frequency data looking rather solid.
A welcome rebalancing in growth drivers from consumption to investments looks in the making, though we are not in a hurry to celebrate that, as the latest social demands might be partially satisfied by cutting into investment spending. This spending shift might in fact be growth supportive in the short term, though clearly not ideal from a medium- and long-term perspective.
On the brighter side, real wage growth turned positive in March as the average net wage advanced by an eye-catching 15.7%, with above-average growth visible in sectors such as agriculture, IT services, transportation and construction, while the public sector has generally seen below-average wage growth.
As real wage growth is set to accelerate further this year, a reacceleration of consumer spending could be envisaged in the second part of 2023.
Supply side GDP (YoY%) and components (ppt)
With a significant electoral year ahead, discussions about future economic policies and tax revamps are all over the place. This is blurring to some extent the policy visibility post-elections, though we tend not to put a too heavy emphasis on the headlines these days.
Should it want to continue to tap into the RRF money, any future government will need to deliver the already agreed reforms as per the National Recovery and Resilience Plan, with very little room for manoeuvre.
While some delays are already accumulating and losing some parts of future tranches cannot be excluded, the vast majority of political parties seem to strongly support sticking with the agreed plan.
Construction sector holding on (YoY% growth)
On the monetary policy front, we expect the National Bank of Romania (NBR) to cut rates when the first opportunity arises. Our central scenario assumes a rate cut once inflation inches below the key rate, which should happen in 1Q24.
Nevertheless, if other regional central banks were to move ahead with cutting rates before the end of this year, we cannot rule out the NBR doing the same. For 2024, we expect a total of 150bp of rate cuts to 5.50%. 2024 inflation is likely to allow for even larger cuts, but we believe that the NBR will want to consolidate the lower inflation prints and will maintain a relevant positive differential between the key rate and inflation.
The relative stability of the exchange rate should help as usual, with the EUR/RON rate expected to move upwards in small 1.0-2.0% increments each year.
