25702 1/21/2005 12:22 05BUCHAREST189 Embassy Bucharest UNCLASSIFIED 04BUCHAREST3446|05BUCHAREST130 This record is a partial extract of the original cable. The full text of the original cable is not available. UNCLAS SECTION 01 OF 02 BUCHAREST 000189
STATE FOR EUR/NCE - WSILKWORTH, EB/IFD STATE PASS USTR - LISA ERRION TREASURY FOR STUART USDOC FOR 4232/ITA/MAC/EUR/OEERIS/CEEB/BURGESS/KIMBALL STATE PASS USAID
E.O. 12958: N/A TAGS: ECON, ETRD, EIND, EFIN, PGOV, RO SUBJECT: THE GLASS HALF EMPTY: INTERNATIONAL MONETARY FUND PERSPECTIVES ON THE NEW ROMANIAN GOVERNMENT
Ref: A) 04 BUCHAREST 03446, B) BUCHAREST 00130
THIS CABLE IS SENSITIVE BUT UNCLASSIFIED. NOT FOR INTERNET DISTRIBUTION.
1. (SBU) Summary: The International Monetary Fund's (IMF) representative in Romania is pessimistic about the country's short-term future prospects for macroeconomic stability and progress on economic reforms. The new government, in his view, is inexperienced and will lose valuable time understanding the levers of power, thus perhaps squandering some of the positive gains from last year. Post sees this negative assessment as bleak, although it agrees that the new government faces macroeconomic challenges and a challenging introduction to power. End Summary.
2. (SBU) Econoffs met on January 12 with Graeme Justice, IMF's Resident Representative, regarding his perspectives on the new Romanian government's (GOR) economic policies and prospects. Justice began by emphasizing the inexperience of the new cabinet and expressed doubt whether they have the ability and understanding to make necessary reforms. The previous administration required a six-month learning curve before substantive discussions were possible according to Justice, who noted that a longer time period will likely be required for the new team. All ministers and most state secretaries have been eliminated and the loss of
SIPDIS institutional knowledge will be a burden this year. He noted that mistakes have already been made during the administrations first twenty days, including firings of critical ministerial staff members and retention of weak players. He fears that the GOR's honeymoon period will soon end and scrutiny on its actions by the press will be relentless.
LATEST FISCAL MOVES COMPOUND WOES FROM INHERITED BILLS
3. (SBU) Justice's main concerns centered on the convergence of election-driven salary and pension increases that the previous government pushed through last year and the new government's financial promises, including the new flat tax of 16 percent (Ref B).
4. (SBU) Regarding the flat tax, Justice discussed the recent case of Slovakia, which implemented a similar flat tax rate as an incentive for tax evaders to join the legitimate economy. Justice claimed that the Slovak flat tax, structurally similar to the Romanian one, resulted in lower government revenues and little shift of the gray economy to the normal, tax-paying economy. Justice agreed that enforcement of tax collection is key for the Romanian government to meet its promises, but did not seem optimistic about this prospect.
5. (SBU) Justice predicted that the government will, in the months ahead, have to begin making tough, unpopular decisions, including repealing the increases of government salaries, as the government realizes that its budget is unrealistic and the deficit widens. Justice returned to the subject of Romania's unworkable budget several times, emphasizing that expenditures will far exceed revenue.
6. (U) Justice also expressed concern about capital account liberalization. He worries that once the government lifts restrictions on foreigners who wish to invest in Romanian lei (ROL) bank accounts, an influx of speculative investment will occur (Ref A). When asked why Romanians feel pressure to liberalize the account at this time, Justice stated that account liberalization is viewed as an indication of a developed economy, and Romania wants to portray itself as up to Western economic standards.
7. (SBU) Justice mentioned that the International Monetary Fund plans to send a group to Bucharest at the end of January and that they intend to meet with the administration. Although the group intends to give Basescu encouragement as he faces difficult economic restructuring ahead, Justice is already pondering how to break the news in February that the budget is in bad shape.
COMMENT: THE GLASS IS HALF FULL
8. (SBU) Post agrees with the IMF representative's observations about the GOR's need to balance bold fiscal policy with continued attention to macroeconomic stability. The new GOR government will, indeed, soon face hard decisions about laying off workers in the loss-making mining sector as well as finding sources of funds to offset the (presumably temporary) dip in government revenue due to the flat tax's introduction. 9. (SBU) Post, however, assesses that Romania's economy continues to be in a growth mode and revenues to the state coffers should also increase, helping to make the flat tax revenue dip less severe. Aggressive action against prominent tax cheats has already occurred and additional steps in this direction in coming months should encourage more companies and individuals to pay their lawful share of taxes. Finally, the local currency's (leu) increasing strength on the foreign exchange markets at this time will make imports cheaper and, at least in the short term, help alleviate the danger of increased inflation.