Romania: harsh realities

In these turbulent times, economic forecasts have become even less of an exact science than they were before. In all fairness, we are facing an unprecedented situation, with a sudden large-scale shutdown of almost all economic sectors, for reasons that go beyond - in fact have nothing to do with - economics. Nevertheless, faced with the avalanche of revisions to macroeconomic indicators, one cannot help but recall Ezra Solomon’s words that “the only function of economic forecasting is to make astrology look respectable”.

So far, the socio-economic developments that Romania is experiencing seem to fit the general picture of most countries at a similar stage of the pandemic: from general warnings to schools closing, factories closings and increasingly tough travel restrictions. And while we still don’t have much data to assess the economic impact, the first estimates we’re getting from confidence surveys and economic actors converge on the same conclusion: in the course of only a few weeks we will experience a contraction that normally would have taken a few bad years to materialise. Considering that a -4.0% contraction in Germany has just become the most optimistic scenario, and that France is losing roughly the equivalent of 3 percentage points of GDP per month of lockdown, Romania’s position is unlikely to look any better.

While the specialised literature on this topic is not lacking (few examples here, here, or here), the magnitude and rapidity of current developments is unprecedented. For the purpose of our forecast, we assumed a neutral impact of otherwise volatile factors like agriculture, net taxes or statistical discrepancies. In general, we consider the agriculture, pharma and IT&C sectors as being the ones less impacted by the current crisis.

We believe that GDP contraction will begin in 1Q20 and estimate a -1.3% drop vs 4Q19 (+1.7% vs 1Q19), despite the probably strong first two months. The bulk of the current anti-pandemic measures will be visible in 2Q20, where we see a -19.7% contraction vs 1Q20 (-19.1% vs 2Q19), with the main drags coming from industry and trade. This assumes a gradual re-opening of the economy starting in late May and, by the end of June, we expect the conditions to restart growth engines to be met, prompting a third quarter advance by +17.0% vs the second one. It might seem a sharp rebound but it comes from a low base. The year-on-year dynamics will remain deeply negative at -5.9%. Benefiting from a relatively low base as well, we see the fourth quarter expanding by 4.4% compared to the previous one, while still contracting by 3.2% vs 4Q19. This will create quite a strong carry-over effect for 2021, when we see GDP accelerating by 7.1%.

An even more erratic indicator for 2020 is – in our view – the year-end fiscal gap which we think could land anywhere between 7 and 9% of GDP. It depends not only on the already difficult to predict GDP dynamics, but also on how revenues will perform in this unprecedented situation. Under other circumstances, we would have assumed the budget sensitivity to GDP growth to be around 0.3 as per the European Commission's latest data, but applied to the current unique context of a widespread economic freeze, we tend to believe that this metric is somewhat underestimated. We are therefore pinpointing a -7.9% budget deficit for 2020, acknowledging that there are many unknowns at this stage.

After the latest decision from the National Bank of Romania taken at an emergency meeting, one might have imagined that the NBR's policy would gradually become less FX-focused. We are rather doubtful about that and do not share the current market views of more aggressive rate cuts from the NBR. However, to the extent the (lack of) FX pressures will allow, we believe that the key rate could reach 1.50% by the end of the year, with the same ±0.5pp corridor around the key rate. Also, we believe that reserve requirements for hard currency and RON will be cut by at least 2 percentage points each. We maintain our year-end forecast for the EUR/RON at 4.8800 and inflation at 2.5%. All in all, we believe that the NBR is able to keep things under control due to its still large FX reserves, but pressures for something to give in will remain.