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Financial Markets-Economics“Romania- Ready for lift-off?”
Florin V. Cîţu-Chief Economist
November 2006
Page 2
[Financial Markets]
Roadmap
• Overview of the global economy
• The Romanian economy
• Prices
• Interest Rate
• Exchange rate
• Convergence to the EUR
Page 3
[Financial Markets]
Global economic health
• Strong global growth, at least in the near term
• Emerging markets seem better equiped to deal with any increase in volatility
• Central and EE economies are growing strong
• Banks in the region are booming
• While international imbalances are widening
• And inflationary risks are intensifying
• But reactions from regionals central banks show that risks are closly monitered
Page 4
[Financial Markets]
US to slowdown while EU will grow faster
2.5
3
3.5
4
4.5
5
5.5
1Q05 3Q05 1Q06 3Q06 1Q07 3Q07
0
1
2
3
4
5
6
1Q05 3Q05 1Q06 3Q06 1Q07 3Q07
1
2
3
4
1Q05 3Q05 1Q06 3Q06 1Q07 3Q07
US GDP (%QoQ ann)
US Fed funds EBC refi rate
0
0.5
1
1.5
2
2.5
3
3.5
1Q05 3Q05 1Q06 3Q06 1Q07 3Q07
EU GDP (%QoQ ann)
Source: ING forecasts
Page 5
[Financial Markets]
The regional economic view
• EU enlargement has brought stronger growth
• Central and EE economies are growing strong
• Banks in the region are booming
• Romania’s underbanked economy offers the most potential for credit growth in the near future
Page 6
[Financial Markets]
Growth remains strong
0
2
4
6
8
10
2000 2001 2002 2003 2004 2005 2006F 2007F 2008F
Czech Republic (% YoY)
0
2
4
6
8
10
2000 2001 2002 2003 2004 2005 2006F 2007F 2008F
Hungary (% YoY)
Source: ING forecasts
0
2
4
6
8
10
2000 2001 2002 2003 2004 2005 2006F 2007F 2008F
Poland (% YoY)
0
2
4
6
8
10
2000 2001 2002 2003 2004 2005 2006F 2007F 2008F
Romania (% YoY)
Page 7
[Financial Markets]
Increasing Indebtedness
• Until late 1990s it was not possible for households to be indebted, but now consumers can leverage themselves up significantly – a key factor driving economic growth in the next 5 years. For example, in 1995 in Greece and Portugal private loans/GDP were at 34% and 75% respectively. Ten years later this ratio reached 79% and 150%.
Lending to private sector as % of GDP
0
10
20
30
40
50
Hungary Slovenia Latvia Estonia Bulgaria Czech Republic Slovakia Poland Romania
Page 8
[Financial Markets]
Romanian credit set to grow further
• With few exceptions credit has continued to grow in all EE econmies in the last 10 years. However, in Romania credit has only started to support growth in the last couple of years, but it is likely to pick up pace in the next couple of years.
0.0%
20.0%
40.0%
60.0%
80.0%
100.0%
120.0%
Jan-
02
Jul-0
2
Jan-
03
Jul-0
3
Jan-
04
Jul-0
4
Jan-
05
Jul-0
5
Jan-
06
RON FX Priv ate sector
Romania Romania
-10
-5
0
5
10
15
20
25
1997 1998 1999 2000 2001 2002 2003 2004 2005
GDP(% YoY) Private Credit/GDP
Page 9
[Financial Markets]
EE experience supports RON credit growth
New EU members Future EU members
0
10
20
30
40
50
60
70
80
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
Len
din
g t
o t
he p
riva
te s
ect
or a
s %
of
GD
P
Czech Republic Estonia
Hungary Poland
Slovakia Latvia
0
10
20
30
40
50
60
70
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004Len
din
g t
o t
he p
riva
te s
ect
or a
s %
of
GD
P
Bulgaria Romania Turkey
Ukraine Croatia
• Except for Czech Republic, where we saw a boom and bust scenario, all the other countries show strong and sustaible penetration of lending into the real economy.
• In the same time of all the furture EU members Romanai is the most underbanked economy and thus has the greatest potential to develope further.
Page 10
[Financial Markets]
Romania offers many opportunies
Lending to the private sector + Gov’t debt (2005)
• Countries with the best outlook are on the right-hand side of this chart and include former Soviet countries as well as Romania and Mexico (even accounting for problems with IMF methodology re: Mexico’s public debt).
0
50
100
150
200
250
300
Jap
an
US
Ne
the
rland
s
Isra
el
UK
Ital
y
Ger
ma
ny
Gre
ece
Ch
ina
Eg
ypt
Cro
atia
So
uth
Afr
ica
So
uth
Kor
ea
Ph
ilipp
ines
Hu
ngar
y
Tu
rke
y
Ind
ia
Bra
zil
Ch
ile
Po
lan
d
Bu
lga
ria
Slo
ven
ia
Co
lom
bia
Slo
vaki
a
Arg
ent
ina
Cze
ch R
epub
lic
Ru
ssia
Ukr
ain
e
Lat
via
Lith
uan
ia
Est
onia
Me
xico
Ka
zakh
sta
n
Ro
man
ia
Lending to the private sector Government debt
(% of GDP)
Page 11
[Financial Markets]
After the EU entry - convergence
• EU enlargement brings stability
• Produces fast growth
• Helped by convergence funds
• FDI is attracted by cheap educated labour force, low tax rates and prospect of EU funding improvements to infrastructure
• Romania’s relatively cheap labor and improving corruption record bodes well for FDI prospects
• Eventual Euro adoption (2012-2014) should secure low interest rates and eventually lower inflation
• But Romania has some way to go to fulfill the Maastricht criteria
Page 12
[Financial Markets]
Convergence funds evolution
0
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
45,000
50,000
Dec
-99
Mar
-00
Jun-
00S
ep-0
0D
ec-0
0M
ar-0
1Ju
n-01
Sep
-01
Dec
-01
Mar
-02
Jun-
02S
ep-0
2D
ec-0
2M
ar-0
3Ju
n-03
Sep
-03
Dec
-03
Mar
-04
Jun-
04S
ep-0
4D
ec-0
4M
ar-0
5Ju
n-05
Poland Hungary
Slovakia Czech
• Convergence funds have been established that are dedicated to the convergence trade. Within the €100bn C4 debt market (€50bn Poland, €30bn Hungary, €10bn Czech Republic and €5bn Slovakia – vs €1bn in Romania), the bulk had to be allocated to Poland and Hungary. Holdings have risen from €4bn to €35bn since 1999.
Flow of funds into local debt markets (€m)
Page 13
[Financial Markets]
Maastricht criteria-budget deficit
2006 Budget deficit forecasts ( ING)
-8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3
Bulgaria
Romania
Czech
Maastricht
Slovakia
Poland
Hungary
-3.5
-3.0
-2.5
-2.0
-1.5
-1.0
-0.5
0.0
2001 2002 2003 2004 2005 2006F 2007F
Budget Def icit
Romania
•EU countries in the convergence trade have few problems funding budget deficits, perhaps encouraging high deficits. Romania has acted more responsibly but it shows signs that budget deficit will grow. Although, close to the Maastricht criteria.
Page 14
[Financial Markets]
Maastricht criteria-public debt
2005 Public debt (% of GDP) - Eurostat & ING
0
20
40
60
80
100
Romania Czech Bulgaria Poland Hungary Maastrichtlimit
Eurozone(2003)
Greece (2003)
Both first and subsequent EU enlargement countries tend to have low debt (public debt, external and internal), decreasing the risks of a financing crisis.
Here Romania looks very well, with plenty of room to increase its public debt
Page 15
[Financial Markets]
Maastricht criteria-inflation
Higher inflation in second-wave countries
Interest rates should remain high for a longer period of time
It translate in more real currency appreciation
2005 average inflation
0
2
4
6
8
10
Czech Eurozone Poland MaastrichtEU 25
Slovakia Croatia Hungary Bulgaria Romania
Page 16
[Financial Markets]
FDI-Romania well placed to receive more
Czech/Hungary now look expensive relative to others in the region.
Poland/Slovakia remain attractive for FDI based on lower wages and high labour supply.
Romania far cheaper and has the advantage of low tax rates, but corruption is still a problem and overall competitiveness is lower.
Wages (EUR) 2005E
Unemployment (%) Dec-05
Corp tax Competitiveness (6 = best)
Per capita GDP
(US$)
Under or overvalued (-) currency vs Spain
Corruption (10 = least
corrupt)
Czech Republic
6.5 8.7 24 4.42 11,800 31 4.3
Hungary 7.2 7.2 16 4.38 11,600 20 5.0
Slovakia 5.1 15.5 19 4.31 9,300 23 4.3
Poland 5.4 17.6 19 4.00 7,600 33 3.4
Bulgaria 2.1 11.9 15 3.83 3,400 31 4.0
Romania 2.6 5.8 16 3.67 4,500 11 3.0
Sources: ING, EU Commision 2006 rates World Economic Forum
ING, 2005 data
ING, PPP comparison Transparency International
Page 17
[Financial Markets]
The bottom line
The global economy is expected to grow at a strong pace over the next 6 quarter. IMF has revised upwards it’s world growth for 2006 and 2007
Emerging markets are well placed to grow fast because 1) bank lending will grow, 2) government policies are better and having a positive effect 3) commodity prices are still high, although the latest data shows that they might have peaked
Within Emerging Europe, the EU convergence story adds further lift 1) low external debt spreads, 2) low local interest rates, 3) high FDI flows as manufacturing moves from western Europe to new member states, and services sector expands rapidly 4) EU cash transfers that will be 3-4% of GDP annually
Romania has the opportunity to adopt the Euro by 2012-14, and catch up with central Europe, unless it follows the populist route of central Europe
Euro adoption in six years would support a fairly bullish view on the RON, stability in nominal terms and appreciation in real terms.