The financial crisis, while unwelcome the world over, was particularly cruelly timed for Romania. After joining the EU in 2007 following a bumpy transition to a free-market economy, the country seemed to be speeding towards the economic development enjoyed by its new peers when its rapid ascent was abruptly halted.
The resultant two years of recession, while typically described by local economists as a “rebalancing”, were severe and resulted in a large contraction of gross domestic product (GDP) and a corresponding increase in budget deficit. In response, the government borrowed extensively, receiving a €20bn loan package from the International Monetary Fund (IMF) and others in 2009, and a subsequent €3.7bn precautionary top-up.
Blow after blow
Romania's GDP, which fell by 1.6% in 2010, recovered to 2.5% growth in 2011, thanks to a unusually strong agricultural output, but recovery has been listless and the figure looks set to slump to somewhere below 1% for 2012, according to most estimates. It is the kind of figure that is now depressingly common across much of the EU, but woefully low considering Romania’s per capita GDP remains a fraction of its western European neighbours. And the country's problems do not stop here; officials have dawdled in drawing available EU funds, worsening financing conditions.
To make matters worse, public unrest led to a political crisis earlier this year, which saw a presidential suspension and attempted impeachment amid bitter political squabbling. Meanwhile, exports have underperformed, and industrial and farming output remains low, partly as a result of an acute drought. And with elections in December, political uncertainty remains, with no clear idea of what the administration (likely a coalition) will look like, nor what its financial priorities will be.
There are some encouraging signs, however. Foreign direct investment is picking up and the current account deficit was down 22.9% year on year as of August. Public spending has been reigned in too and looks set to meet a target of reducing the budget deficit to 3% by the year's end, according to the National Bank of Romania (NBR). Consumer price index inflation, which stood at an average of 3% as of September 2012, is down from 5.8% in 2010, although it is likely to remain above the upper reaches of 2012’s goal, according to NBR officials.
Challenging environment
Meanwhile, reflecting broader conditions, Romania's banking environment remains challenging and inevitably tied to the development of the economy as a whole. That said, the country's banks proved to be remarkably resilient throughout the crisis, with no defaults, bankruptcies or government money diverted to bail out failing institutions.
“The banking sector remained very reliable [throughout the crisis], and any improvement of the capital base came from shareholders," says NBR governor Mugur Isarescu. This was perhaps a necessity, as 85% of the Romanian banking system, which consists of more than 40 universal banks, is in foreign hands, notably Austrian, French and Greek firms. Even the latter, says Mr Isarescu, behaved exemplarily during the crisis and worked closely with NBR despite problems back home.
Most markers are positive; deleveraging has progressed moderately, with a stable loan-to-deposit ratio of about 120% over the past year, according to Erste Group. Meanwhile, at year-end 2011, average capital adequacy stood at 14.5%. Non-performing loans (NPLs) remain stubbornly, and concerningly, high, however, and now stand at 17.6% of the country’s total loan portfolio, up from 11.9% at the end of 2010 and just 2.8% in December 2008, according to NBR data.
It is a trend which Raiffeisen Romania’s chief economist, Ionut Dumitru, describes as the biggest challenge for the country’s banking sector, although he adds that figures are somewhat inflated by the fact that the banking system is still accruing interest rates and penalty interest rates for NPLs and as a result, write-offs and write-downs have not been as significant as in other countries. “In the US, for example, without write-offs or write-downs, the figures of NPLs would be much higher,” he says.
Mirela Iovu, vice-president of Romania’s state-owned CEC Bank, adds that the industry has had long-standing issues with recovering bad loans, and that the legal provisions, such as civil procedure and bankruptcy laws, are not favourable to creditors.
More of the same
Growth of any sort is hard to come by in Romania. Forecasts suggest a single-digit increase in assets and loans for the next two to three years at least, a far cry from pre-crisis levels of 50% annual asset growth. Lending to corporates has increased somewhat, but consumer loans continued to fall, even during 2011’s tenuous recovery, as households continued to deleverage and save, despite the banking sectors’ best efforts to drum up new business.
“It is difficult as we are confronted with decreased demand for new loans, despite the fact that we reduced fees and came up with new products,” says Ms Iovu. Even specific small and medium-sized enterprise (SME) programmes are failing to generate significant increase, she adds.
In a world of quantitative easing, this may not be surprising. Significant jumps in the value of real goods and commodities, and the resultant narrowing of disposable income, will inevitably create problems at every level, as wary households and businesses deleverage. “Romanian households and corporations are being hit everywhere,” says Sergiu Manea, vice-president for group corporates and markets with Erste Group subsidiary Banca Comercială Română. “From foreign exchange rates to agricultural products, and persistently elevated oil prices, macro conditions are not favourable and they must avoid unnecessary risks.”
Potential for growth
Ultimately, the growth of the financial sector will inevitably be tied to the broader economy. And here, despite recent troubles, there is certainly potential for significant development, particularly if the backlog of EU funds is appropriately deployed.
Perhaps the most obvious area for development is Romania’s sub-par transport network. “Transport infrastructure and the need thereof is the biggest potential we have,” says Mr Dumitru of Raiffeisen Romania. “The possibilities are huge – even if the government only focused on infrastructure for the next decade and channelled funds from the EU to these types of projects, there would probably be a quite rosy picture for the Romanian economy.”
Agriculture could also prove to be a potent engine for growth. While already a sizeable part of Romania's economy, it remains one of the most undeveloped sectors in the country. And while it has been the focus of much investment, it still underperforms in comparison to EU averages, due to a deeply segmented market and low levels of mechanisation.
Romania also boasts significant natural resources which are still to be exploited, including oil and gas reserves in the Black Sea, which could eliminate the need for imports from Russia and elsewhere. The government has committed to liberalising rules for exploitation.
The long, slow process of privatisation, familiar to every former Soviet country, should also provide some impetus for growth. However, despite government commitments to sell off some major assets as a condition to accessing IMF loans, progress is, for various reasons, significantly behind schedule.
Unlocking potential
Further low hanging fruit can be found in Romania’s undeveloped capital markets. The role played by Romania’s stock exchange in the financing of the economy is unusually low compared to other European countries, as is its daily turnover. It seems it will inevitably have to contribute more in the future however, and here, too, the potential could be huge. But progress has been slow.
“I am always frustrated, because I love the capital markets, but a country that doesn’t understand the functionality of the stock exchange is condemned to be unattractive to investors, because a stock exchange means openness, transparency and the same rules for everybody,” says Dumitru Beze, chairman of the Romanian Capital Markets Investors Association. “It is about common sense. If Romania doesn’t understand the importance of the mechanism of a stock exchange, it will stay in the dark for a longer period and the capital will go where the situation is more attractive. Nevertheless, I strongly believe that Romania has significant upside potential."
Realising this potential may not be so easy without some major changes, however. In particular, structural and political reform, such as improved technical and administrative capacities in the public sector, is required to aid in the absorption of available EU funds and boost the resources available for infrastructure projects, according to Jean-Luc Parer, head of international retail banking with Société Générale, which owns Romania’s third largest financial institution, BRD Bank. "That is the major challenge for Romania – to put in place the appropriate frameworks for what they are currently doing, working with the right processes and acquiring the right expertise to move towards growth."
Obstacles remain
Some work is yet required, however. The World Bank’s Ease of Doing Business Index – a measure of how conducive the regulatory environment is to starting and operating a local firm – ranks Romania at 72 out of 185 countries, while the European Bank for Reconstruction and Development has prioritised dealing with excessive red tape and licensing problems. At the same time, corruption continues to be an issue. According to Transparency International’s Corruption Perception Index, which ranks countries from most to least corrupt, Romania ranks between China and Gambia at 75th out of 182, one of the worst scores in the EU.
Should these changes be enacted, however, the difference should be significant, according to Mr Isarescu of the NBR. “Structural reforms will be able to release important internal resources which are blocked, because of low efficiency of administration, and even corruption.”
The rewards of EU funds should impel the required changes, however, according to Mr Manea, who says: “A big requirement for accessing EU funds is the development of transparency, market standards and best practices… Following the ways they are being designed and applied in other countries with much higher absorption will transform the way of doing business in Romania.”
A similar, commonly heard refrain is that the worth of Romania’s stated deadline of joining the euro in 2015 – which no one, from bankers to economists and politicians, appears to actually think will happen – lies with the end-date’s value as a catalyst for reform, rather than any realistic expectation of it being realised.
External pressure may also push things along in the capital markets and privatisation space here too. The government has outlined plans to sell off a number of state-owned firms, with at least a component set to be listed on the underweight stock. This process was a key part of new agreements with the IMF and, despite delays, if they are to be further extended, as seems likely, it will doubtless prove to be the subject of renewed focus.
Consolidation and specialisation
With much to be done, only the most optimistic are forecasting an immediate upswing for Romania. Most, Société Générale’s Mr Parer among them, do not forecast any significant growth until 2014 at the earliest. In the meantime, resilient as it has proven, Romania's banking sector will inevitably suffer. The crisis years did see a reduction in some branch networks and staff numbers. But the sector’s overall structure remained relatively unchanged. Many still question whether a country of Romania’s size can continue to support the current number of individual banks, however, and forecast some degree of consolidation.
This is particularly likely to take place among the lower tier of institutions, says Sergiu Oprescu, executive president of Alpha Bank Romania. These institutions make up just 29.4% of the market between them. “You need to have a certain critical mass to be a universal player in the local market. Organic growth will be more difficult in the immediate future, so it will be much more difficult for banks which haven’t made it into the upper leagues. I think consolidation is a must at this point in time,” says Mr Oprescu.
Even players that do not end up consolidating may well end up narrowing their focus and specialising on specific segments such as SMEs, or reinvent themselves by becoming niche players rather than attempting to do everything and cover everyone, says Mr Dumitru. “I expect some to reconsider their strategy and become a niche bank or focus on different client segments and there will certainly be a lot of mergers and acquisitions. There are banks which are in a good position to extend their activities, and banks which are forced to cut down their activity and reconsider their strategy,” he says.
Here too, then, as with the Romanian economy as a whole, there will be opportunities as well as dangers. But for those able to tap them, and realise the potential contained within, the rewards could be huge.
