Executive summary
The COVID-19 pandemic put a halt to fast improvements in living standards. While the recovery has been strong, virus resurgence clouds growth prospects, as the vaccination rate is low.
Before the pandemic, the economic performance of Romania was impressive. In less than 20 years, Romania has reduced the gap in GDP per capita to the OECD average by half, from close to 70% to around 35%. The population at risk of poverty or social exclusion had fallen to 30% in 2020, from around 50% thirteen years before.
Growth is set to remain strong, but risks are high. The crisis hit the economy hard as GDP fell by 3.7% in 2020 before surpassing its pre-crisis level in 2021. The pursuit of the recovery will critically hinge on the developments of the pandemic and the government’s capacity to weather possible future economic shocks. Due to low uptake, the vaccine rollout has been too slow to protect the population against future waves of infection and should accelerate.
Macroeconomic policies have rightly supported the economy since 2020. The sizeable risks to the outlook call for a prudent normalisation.
Monetary policy has been rightly accommodative in 2020, but inflation pressures should continue to be closely monitored. Inflation has exceeded the upper bound of the target band of the central bank on the back of increases in energy and food prices. The central bank has increased policy rates since October and should continue raising them if needed to avoid that inflationary pressures become entrenched.
Fiscal policy should adapt to economic developments in an agile manner. Support measures should be directed at the most affected, but viable, sectors and firms. A credible medium-term consolidation plan should be established to allow a gradual reduction of the fiscal deficit, should the recovery develop as expected. Such a plan should include reforms to accelerate the absorption of EU funds, raise revenue collection, and improve the financial sustainability of the pension system, which are necessary to maintain the sustainability of public finances.
Source: OECD calculations.
Romania should make the most of EU funds, seizing the opportunity offered by the NextGeneration EU Plan. Under this scheme, Romania will receive a large amount of grants that will be used to finance the national Recovery and Resilience Plan. An effective implementation of these plans will require strengthening administrative capacity, notably for the oversight of projects, while implementing the associated structural reforms.
Reforming the pension system is urgent. The 2019 pension law is being reconsidered, as it undermines the sustainability of public finances and limits resources available for education, healthcare, social assistance, and infrastructure, which would be more effective at supporting the recovery. Incentives to expand working lives and policies to improve the employability of old-age workers need strengthening.
Reforms can improve efficiency and equity in the tax system. Accelerating the on-going modernisation of the tax administration as planned is crucial to improve tax collection. Removing inefficient tax expenditures and increasing less distortive taxes could be used to reduce more distortive taxes, boosting growth potential.
Improving access to high-quality healthcare, education and jobs is key to resume progress in living standards. Meeting environmental challenges should be a priority.
Regional disparities in living standards and economic opportunities are large and widening like in many EU countries. While Bucharest and many secondary cities have become hubs of prosperity and innovation, poverty remains widespread in rural areas. The COVID-19 crisis has aggravated poverty risks, especially in marginalised communities.
Source: OECD Income Distribution Database.
Like in OECD countries, the integration in the formal labour market of people with a low level of educational attainment, especially youth, women and Roma, is difficult. Low participation rates coexist with labour shortages. High inequality in educational outcomes and modernisation needs in vocational education partly explain skills mismatch. The insufficient provision of childcare and long-term care is also detrimental to women participation in the labour market.
Providing adequate skills to all citizens is a precondition to improve labour market performance. The impact of socioeconomic background on educational outcomes is large. School closures in 2020 and 2021 have disproportionally affected disadvantaged students, increasing learning gaps. Participation in adult education is very low, despite fast changing labour market needs. Efforts should concentrate on vulnerable students and low skilled adults, and the government rightly plans to allocate more resources to disadvantaged schools.
Source: OECD PISA 2018 Results, Volume I.
Public support to job seekers needs strengthening. The COVID-19 crisis has exacerbated barriers for individuals with low employability to integrate the labour market. A large number of unemployed do not use public employment services, calling for developing reach-out mechanisms. Effectiveness and targeting of active labour market policies can improve, not least by offering appropriate up-skilling and re-skilling options to the unemployed.
Health outcomes have improved over the past decades, but access to healthcare remains constrained for many citizens due to acute shortages of medical staff and low public health insurance coverage. Unmet medical needs and the death rates from preventable and treatable causes are high. The pandemic put strong pressure on hospitals.
Tackling air pollution is a priority to improve citizens’ health as it contributes to a relatively large number of premature deaths in Romania. Romania has made remarkable progress in decoupling greenhouse gas emissions from economic growth, but meeting the current 2030 target to reduce emissions by 2% with respect to 2005 levels requires further investments in low-emission technologies and improvements in energy efficiency. The Recovery and Resilience Plan should be used to foster such investments, while financial incentives to change behaviours and reduce environmental damages should be strengthened.
Productivity growth has been impressive, but has decelerated over the past decade. Reforms supporting business dynamism and addressing infrastructure gaps are central to foster productivity gains.
Improving the competition and regulatory framework can help to boost productivity. In spite of some progress made to reduce the administrative burden, the complex licence and permit system still imposes a heavy burden on businesses. Entry barriers in professional services remain high. The presence of low-performing state-owned enterprises distorts the allocation of resources.
Inefficiencies in the insolvency regime are hindering creative destruction. Many non-viable firms survive to the detriment of new, more creative ones. Successful reorganisation of indebted companies is rare because companies enter the insolvency process late. Institutional reforms, such as the introduction of early warning mechanisms and out-of-court proceedings can facilitate the reorganisation of viable firms and the exit of the others.
While access to finance is good overall, young innovative firms and SMEs in remote areas face financing difficulties. Start-ups can be better supported by targeted grants or the introduction of an investment fund for venture capital financing. The national development bank envisaged in the Recovery and Resilience Plan could support SMEs by addressing some dysfunctions in the financial markets and improve access to finance in rural areas.
Source: OECD PMR Indicators.
Unpredictability of the regulatory environment can hold back business investment. The extensive use of emergency ordinances without proper impact assessment and stakeholders’ consultation in the past increased uncertainty with adverse effects of economic activity. Recent progress should continue, as the Recovery and Resilience Plan aims to strengthen policy stability.
Trust in institutions is low and corruption remains a major issue. The recent legal amendments affecting the judicial system and pressures on the National Anti-corruption Directorate (DNA) have weakened the fight against corruption. The amendments should be repealed as planned and the DNA should have the necessary resources, authorised power and independence to conduct investigations.
Transport infrastructure gaps are large. Addressing them can have a substantial positive impact on regional development and the integration in global value chains. Despite some improvement, the absorption of EU funds for large infrastructure investments remains slow, due to the low quality of projects preparation. It is essential to ensure policy consistency between the long-term infrastructure strategy and the implementation of investment plans and to improve the administrative capacity to deal with large projects.