Romania- The Struggle for European Acceptance

Project Overview

I have always been very interested in the economic, social and political transformations Romania has been experiencing starting with December 1989, the significant moment in which the Romanian people put a stop to the tyrannical communist regime and welcomed democracy. In my webpage, I provide an overview of the economic transformations Romania experienced beginning with the fall of the communism, placing emphasis on the more recent years during which the government has accelerated the transition from a centralized economic system to a market economy that protects and respects democratic values, in order for the country to join the European Union. In addition, I discuss the expected costs and benefits of Romania joining the EU.

Description

Country Background

Romania is the second largest country in Central and Easter Europe, with a population of 21.7 million (89% of Romanian ethnicity, 5% of Hungarian ethnicity, 2.5% of Roma ethnicity, and the rest mostly of German, Serbian, Ukrainian, Greek and Turk ethnicity). The country traces its roots in the second century A.D. when Latin-speaking Romans conquered and settled in the territory of modern day Romania, which was inhabited by the Dacian people, giving rise to a new group of people, the Romanians and to the Romanian language, which is a romance language, related to Italian and French.

Over the course of the history, the three major Romanian provinces (Transylvania, Walachia and Moldova) were mostly under foreign domination. However, in 1877 King Carol I, 1877 declared independence of Walachia and Moldova from the Ottoman Empire and later on, in 1919 Romania was awarded Transylvania (previously part of the Austro-Hungarian Empire), at the Versailles Peace Conference. Following World War II, Romania was ruled by a succession of Communist leaders, with Nicolae Ceausescu, the last communist leader, leading from1965 to 1989. In 1989, Romanian people put a stop to the communist regime and welcomed democracy. Ever since, the country has achieved significant improvements in its economic and social systems, and is expected to join the European Union in 2007.

The Legacy of Commuism -10 years of severe economic instability

The fall of the communist regime found Romania significantly weakened from an economic viewpoint, as the country had just finished paying off more than $10 billion in foreign debt. December 1989 brought a period of tremendous change in the lives of the Romanian people and the following years were characterized by instability and endless fights among Romania’s political parties, on the grounds of who is responsible for the economic failure experienced by the country (Kaldor 142). Besides having to face “market distortions and structural problems common to all transition countries” (Romania – Country Assistance Evaluation 11), the Romanian people, severely weakened by former president’s Nicolae Ceausescu ambition of repaying the country’s entire external debt, also suffered the consequences of living in a country in which the bureaucracy was “insecure, politicized, and prone to corruption” (Romania – Country Assistance Evaluation 11). The legacy of communism was hard to shake off and, backed by a presidential regime, many former Communist party members —who gained power after the December 1989 revolution— took advantage of their political positions and pursued their own selfish interests, disregarding, at the same time, the needs and rights of the people (Tismaneanu 319).Thus, the Communist rule was followed by a by an inefficient “democratic” leadership in which true reforms failed to be implemented and democratic institutions were practically inexistent (Kaldor 144), which has significantly weakened not only the country's economy but its society as well. President Ion Iliescu— a former leader in the Communist Party and one of Ceausescu’s protégé— who was elected for office after the fall of the communism, “established a governing coalition with the country's most anti-Hungarian, anti-Semitic, and anti-liberal movements,” which allowed members of the former Securitate — Ceausescu’s private army, a ruthless security apparatus— to became successful businessmen" (Tismaneanu 320). Also, “Romanian civil society remained particularly weak, with paltry levels of civic engagement compared to other countries, with low levels of trust, tolerance, and other measures of the cooperative spirit that underlies the civic culture” (Badescu 335).

The 1990s were characterized be severe economic and social turmoil. Despite a series of strategies being established for the development of a market economy (i.e. democratic constitution, genuine elections, laws that protect civil rights, human rights and the environment, increased support for the development of NGOs, etc.), the economic gains were minimal. Important areas like privatization, increase in foreign direct investment and reform of the financial sector were mostly neglected as the government implemented few reforms that were conductive towards improvements in these fields. The process of privatization of state owned companies was very slow and many unprofitable businesses had to be subsidized by the state, in order to prevent further increases in unemployment. Also, the banking sector was still dominated by corrupt state owned banks, which made it very hard for small and medium size enterprisers to take out loans in order to further develop their businesses. Led by an uncaring,corrupt government who didn’t feel compelled to adopt development measures, the Romanian people lived in a permanent state of economic and social instability during the 1990s. Despite the government's attempts to improve the country's economy, by adhering to the European Council and to the Partnership for Peace— a formula of cooperation between NATO and the associate states on their way to membership, the expected bebefits failed to be achieved(Dawisha 434). Despite the World Bank’s willingness to provide assistance towards the economic and social development of the country (over the years, Romania received significant financial aid packages - about US $400 million per year), directed mostly towards private sector development (60%), agriculture (18%) and social development (15%)) , there was no significant improvement. During the mid 1990s, Romania’s imports became much larger than the country’s exports. As foreign reserves fell, inflation began to increase and the Romanian currency (leu) lost a significant value against the US dollar. In 1999, the county experienced a major financial crisis, with inflation rising to 36% (Romania – Country Assistance Evaluation 9). The transition to a market economy resulted in a 50% decrease in Romania’s industrial production. This caused unemployment to rise from 0% under communism to more then 10% in just a matter of months. After the fall of the communism, the government subsidized state owned companies (during communism, Romania’s companies were monopolistic as there was no market competition and prices were determined by the state) in order to prevent their exclusion from the market by foreign companies (whose products were selling for less) and thus prevent further increases in unemployment. However, the larger money supply eventually caused a huge increase in prices (prices more than doubled each year), which led to increased inflation.

taken from http://www.econ.kobe-u.ac.jp/~yoshii/e/laborseminar/yoshii.pdf

When analyzing the Development Indicators, for 1996, one can easily see the instability that characterized the Romanian society and economic life. The Rule of Law, Governmental Effectiveness, Political Stability and Lack of Violence Human Development Indicators for 1996 were very low compared to those of many other countries; moreover, due to slow economic growth, the poverty level was very high (in 1996, 20.5% of Romanians had to live to live with only $2 a day, while 2.1% were only earning $1 a day) (www.freedomhouse.org). Also, distribution of income between the rich and the poor was clearly uneven; while the richest 10% of the population held a 23.6% share of the income and consumption level, the poorest 10% had access to only 3.3% (www.hdr.undp.org). Romania was perceived as a country that that lacked an independent judiciary, had an inadequate free press, and had not halted torture carried out by police officers” (Evans-Pritchard 16). EU specialists classified the electronic media, as being “increasingly sensationalistic and avoiding politics altogether to minimize the risk of political pressure”(www.freedomhouse.org). Also, they assessed that the Romanian media carefully screened the talk-show guests in order to “avoid harsh criticism of the government” and manipulated newscasts “to the same effect” (Evans-Pritchard 16). The EU Commission also accused political parties of bribing journalists —most of who had low incomes— in order to favorably portray these institutions in the press (www.freedomhouse.org).

In the years following the fall of communism, discrimination against women and minorities was another widespread problem. Although the Romanian Constitution clearly specifies that women have equal rights with men, gender discrimination was widespread in the country (www.freedomhouse.org). Not only were women underrepresented in the government – only 10.4 percent of the deputies and 5.7 percent of the senators in the current parliament are women— but they were also disadvantaged by not having the same job opportunities as equally qualified men (www.freedomhouse.org). Also, despite the country’s “democratic” political and social system, the 1.5 million Roma (the largest population of gypsies in Europe) living in Romania was permanently ostracized and refused basic rights like education, employment, and proper medical care. Moreover, the 2 million Hungarians living in Romania (the largest ethnic minority in Europe) could not use Hungarian as an official language in administration (www.freedomhouse.org).

Romania and the European Union

The major turning point in Romania’s development represented the decision of the EU Council of Ministers in December 1999 to begin accession negotiations for Romania, which resulted in the Romanian government being stronglyy compelled to implement reforms directed towards achieving stability, growth and private sector development (Romania – Country Assistance Evaluation 9). EU accession is now the strongest driving force that shapes the decision making process of the Romanian government.

According to the European Union, in 2000 Romania “scored last among EU accession countries in the World Bank's composite index of government accountability, effectiveness, regulatory quality, rule of law, control of corruption, and political stability” (Freedom House). More than this, Romania experienced “the least improvement in performance between 1998 and 2002” of all the Eastern European states that candidate for EU membership (www.freedomhouse.org). The European Commission declared that, although Romania achieved a functional market economy and was moving towards a stable democratic system, that is able to guarantee “the rule of law, human rights, and respect for minorities”, the country still had major problems in what concerns the corruption level, which “affects almost all aspects of society” (Evans-Pritchard 16). The high level of corruption— most prevalent in parties and in courts— categorically infringed the process of economic and human development. Romania was listed in Transparency International's Corruption Perceptions Index as the most corrupt of the EU accession countries, ranking 85 out of the 133 countries surveyed and the second most corrupt in Europe, after Russia (Freedom House). One of the country’s most severe limitations consisted in the underdeveloped private sector “with state-owned enterprises continuing to account for a significant share of economic activity” (Economist Intelligence Unit). The principal reasons for the low level of foreign investment were represented by unofficial barriers, mainly “Romania’s inconsistent legal and regulatory system” (Freedom House- 2002 Index of Economic Freedom). In 2002, what further discouraged foreign investors was that tax laws were frequently changed and were unevenly enforced. Moreover, tort cases required “lengthy, expensive procedures, and judges’ ruling faces uncertain enforcement.” (Freedom House). In 2002, the World Bank ranked Romania “last among EU candidate countries in terms of the responsiveness and efficiency of its administration, the quality of government regulations, the rule of law, and political stability” (Freedom House).

In an address to the Annual Meeting of Romania’s ambassadors and general consuls, the Romanian Prime Minister, Calin Popescu Tariceanu declared that Romania’s EU accession in 2007 is a fundamental objective and “the only policy option for the government”(Government of Romania). The desire to become part of the European Union is what triggered the government to adopt a series of measures for the economic and social development of the country. In order to be eligible for becoming a EU member, Romania was required to meet specific requirements which were comprised in 31 chapters adhere chapters (small and medium sized enterprises, science and research, education and training, external relations, common foreign and security policy, statistics, company law, health and consumer protection, fisheries, economic and monetary union, social policy and employment, industrial policy, telecommunications and IT, custom union, institutions, culture and audio-visual policy, free movement of capital, free movement of goods, taxation, free movement of persons, transport policy, financial control, agriculture, financial and budgetary provisions, energy, free movement of services, regional policy structural funds, environment protection, competition, justice and home affairs (Strategy paper of the European Commission on progress in the enlargement process). So far the country managed to provisionally close all these chapters. However, the EU reserves the right to postpone Romania’s admission in the EU till January 2008, if it will be estimated that the country is not fully prepared to successfully meet membership requirements.

Economic and Social Improvements

In the last few years, Romania has significantly improved its economy and human development process, and its almost certain acceptance to the European Union in 2007 seems to confirm the fact that the country is slowly but steadily moving in the right direction. Romania was invited to join the North Atlantic Treaty Organization in 2002 and, ever since, the country recorded significant improvements in its attempts to foster economic growth and social development. Many political and economic analysts consider the presidential elections in November 2004 as the beginning of an era full of great prospects for Romania. The new president, Traian Basescu –who is not associated with the old regime—is very popular among intellectuals and the young generation, and was a remarkable minister with an innovative, highly efficient way of finding the best solution to a wide variety of challenges.

The Romanian’s government objectives are centered around “strengthening the external current account balance, further reducing inflation, sustaining continued GDP growth, and preparing the economy for EU accession”(International Monetary Fund). In recent the government adopted key stabilization policies implemented by the government (i.e. reduction in the general government budget deficit, strengthening of the finances of state-owned enterprises through energy price adjustments and wage restraint, measures to contain credit growth, strengthening of the judicial system, and decreased corruption), which brought significant improvements for the economy.

In order to reduce inflation, the government adopted a re-denomination process that consisted of cutting four zeros from the nominal value of the previous currency. The new currency was introduced on 1 July 2005 (European Union, Candidate Countries’ Economies Quarterly July 2005). In addition, the government has also adopted “key monetary and exchange rate policies capable to aim at striking a balance between reducing inflation and maintaining Romania's external competitiveness” (International Monetary Fund). The results were very good, as inflation declined from 14.1% in 2003 to 9% in 2004. The government also managed to decrease its consolidated budget deficit from 3.7% in 2000 to 1.2% in 2004. Under the IMF’s guidance, the budget deficit has dropped significantly from earlier levels. In 1999, the budget deficit represented 4.0% of GDP; 3.7% in 2000; 3.5% in 2001; 2.6% in 2002; 2.4% in 2003; and 1.2% in 2004 (International Monetary Fund). Fiscal reform measures were also implemented. In order to encourage foreign investment, profit tax for businesses has decreased from 25% to 16%. The government expects that the revenue loss caused by these tax cuts should be compensated by “improved tax collection, a broader tax base and a restrictive expenditure policy” ( Raport 2005). Also, the government has decreased the requirements for people’s contribution to social public funds ( pensions, health, unemployment), while increasing taxes on luxury goods and that on real estate properties at their real market value. The introduction of the new tax system has also resulted in the budget revenues increasing by 14% over the first four months of 2005 and in the creation of more then 150,000 jobs, which were brought back to real economy from the black market (Government of Romania). The new government also succeeded to reduce unemployment, which decreased from10.5 percent in 2000 to 7.8% in the first quarter of 2004 to 6.5% in the forth quarter and to 5.6% in the first quarter of 2005 ( European Union, Candidate Countries’ Economies Quarterly July 2005). Over the last few years the country also recorded improvements in terms of economic growth. GDP recorded a growth of 8.3% in 2004, up from 5.3% in 2003, mainly driven by a significant increase in household consumption (10.8% higher in 2004 than in 2003). (European Union, Candidate Countries’ Economies Quarterly April 2005).

Achieving development in the private sector is of major importance for the government, as it is a requirement for Romania being accepted in the EU. The private sector currently employs over 72% of Romania’s total workforce (from 55% in 2002), which is a reflection that the country has indeed privatized most of its important state owned companies. In the banking system, for example, recent years have brought more stability, mostly due to the fact that a significant number of foreign banks have opened subsidiaries in Romania, any many others are competing in order to buy Romanian banks (i.e. the CEC-Savings Bank), which the government intends to privatize (Government of Romania). The privatization of the Banca Comerciala Romana (Romanian Commericial Bank) has resulted in the government’s share in the banking system decline to 10%. In 2003, there were 38 commercial banks in Romania, 31 of who were owned by foreigners (Freedom House).

In order to increase foreign direct investment in the country the government created in 2002 the Romanian Agency for Foreign Investment (ARIS), which is responsible for adopting measures that encourage foreign investment in the country. It its attempts to find the most suitable ways to attract investors, ARIS adopted legislation giving foreign investors the same rights and benefits of Romanian citizens. Also, ARIS has taken steps for assuring foreigners that they do not have to fear ownership appropriation by state or expropriation. In addition, legislation was passed saying that there is no limit on foreign share in companies (i.e. a foreign investment can own 100% of a company he establishes in Romania).

One of the government’s main objective is to improve its Capital Account by privatizing national companies; in 2004, net inflows of foreign direct investment increased significantly, mainly due to the privatization of Romania’s national oil company, Petrom, and reached 6.9% of GDP. It is expected that the capital inflows will put upward pressure on the ROL (which appreciated 7.2% against the Euro in the first quarter of 2005). As the Romanian currency (leu) has appreciated against the US dollar and the Euro, investors became more confident that they would record economic growth by investing in the country: “Investors are attracted to Romania by the regional market, low costs - labor force, land, production (cheap utilities) - economic and politic stability, as well as by the high quality of the labor force” (ue.mae.ro). In a report, UNCTAD (United Nations Conference on Trade and Development) shows that more than 50% of the companies that decided to open a business in Easter Europe chose to invest in Poland or Romania (unctad.org). The Foreign Investors Council considers that does not come as a surprise, as "Romanians are very well educated, skilled and relatively cheap; the market is large - 22 million inhabitants - and has a good geographic location with transport connections towards Europe and central Asia. Moreover, the Government has been striving for many years to create a favorable business environment, which can be seen in the economic growth, diminishing inflation, and political stability." At the end of 2004 Romania attracted approximately $13.7 billion if foreign investment (out of which 6.5% was US direct investment. (www.traveldocs.com ). According to the Romanian Agency for Foreign Investment, in the first half of 2005 the level of foreign direct investment has risen by 19% compared to the same period in 2004, mainly due to the introduction of the16% flat tax on personal income and corporate profit (which previously was 25%) and the fact that the country will join the EU in 2007 (www.wikinews.com¬).

Some of the benefits of investing in Romania include: - Romania is the 2nd largest market in Central and Eastern Europe (following after Poland) - easy access to former Soviet countries and the Middle East - skilled labor in technology IT, engineering - important natural resources (fertile land, gas deposits) - significant tourism potential (the Carpathian Mountains and the Black Sea) - future member EU - member of NATO - member of UN - free trade agreements with EU, EFTA, and CEFTA countries

Annual GDP growth rate: -3.2% (1999); 1.8% (2000); 5.3% (2001); 4.9% (2002); 4.9% (2003); 8.3% (2004). The introduction of the new tax system has also resulted in the budget revenues increasing by 14% over the first four months of 2005

Trade: Exports--$10.4 billion (2000); $11.46 billion (2001); $13.87 billion (2002); $17.61 billion (2003); $23.48 billion (2004).