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2017 budget – Detailed opinion of Fiscal Council: It deliberately and substantially deviates from tax rules; highly overoptimistic macroeconomic scenario; later corrections most likely to come along the way

de Victor Bratu 5.2.2017

The Fiscal Council released on Friday its opinion regarding the Law on the state budget, the Law on the state social insurance budget for 2017 and the Fiscal-Budgetary Strategy for 2017 -2019, warning on “a high probability for a negative revenue gap to occur in 2017, caused by the highly overoptimistic macroeconomic scenario underlying the budget forecast.

The Fiscal Council states in the document that it maintains the objections from its preliminary opinion issued on 27 January where it notified about an underestimation of the budget expenditure and an overestimation of the revenues.

Conclusions of an analysis that took eight days

The Fiscal Council’s final conclusions after analysing the draft budget are:

  • The draft budget for 2017, the same as the draft from the previous year, deliberately and substantially deviates from the fiscal rules imposed by both the national legislation and the European treaties signed by Romania
  • The Fiscal Council maintains its objections to the approach that persistently placing the budget deficit very close to the reference level of 3% of GDP is benign, considering that this is likely to cause vulnerabilities to the public finances and substantially complicate the answer in the event of adverse shocks, which keeps the fiscal policy in the trap of a procyclical behaviour.
  • Fiscal Council’s assessments indicate a high probability of a negative revenue gap in 2017, caused by the highly overoptimistic macroeconomic scenario underlying the budget forecast
  • Moreover, the Fiscal Council identifies a significant potential underestimation of some budgetary aggregates of a non-discretionary nature, therefore, sees as likely the need to adopt corrective measures in terms of revenues or expenses to avoid exceeding the threshold of 3% of GDP during the 2017 budget execution
  • The budgetary slippage registered since 2016 that is likely to continue in the coming years is caused by a mix of aggressive tax cuts, particularly in the consumption area, combined with large increases in the government expenditure, particularly the social ones. The estimations indicate that since 2016 Romania has probably by far the lowest tax revenues (including social security contributions) in the EU (along with Ireland), which will greatly complicate the budget configuration on mid-run.

The gap separating Romania from the EU28 average tax revenues is about 14 percentage point of GDP.

Council’s recommendations

In these circumstances, the Fiscal Council recommends the Government to accelerate the structural reform that has an impact on the rate of the budget revenue collection and the efficiency of public expenditure. In this regard, the Fiscal Council believes that speeding up the implementation of the program with the World Bank that Romania signed in 2013 for the modernization of the system that administrates the budget revenues should be an immediate priority.

Also, swiftly making the process of prioritizing public investments operational and a real reform of the public administration, designed to create a performance management basis for the functioning of the state at various levels could generate significant gains in efficiency at the level of budget expenditure.

About the Fiscal-Budgetary Strategy for 2017-2019

Regarding the Fiscal-Budgetary Strategy for 2017-2019, the Council notes that the attention of the authorities seems again to be exclusively focused on the last year, while not giving the same attention to the mid-term budget projections.

The current strategy indicates a quasi-stable structural deficit in 2018 (an increase from 2.91% to 2.97% of GDP), followed by a decline of only 0.3% in 2019. Even if we accept the extremely favourable assessments of the National Prognosis Commission (CNP) in terms of growth of the potential GDP (the Fiscal Council expressed its scepticism about them in the introduction of this opinion) at the end of the time horizon covered by the strategy it would remain a deviation of 1.7 pp., compared to 1% in the structural deficit compatible with the mid-term objective consistent with the budget balance consistent from the LRFB perspective.

Given the substantial differences between the paths of the potential GDP forecasted by the CNP and the European Commission, a higher deviation at the end of the forecast period from the mid-term objective appears as likely.

The Fiscal Council considers that, given the doubts expressed on the optimistic macroeconomic scenario for 2017 and mid-term, with an impact on the path of the budget revenues, plus the apparent underestimation of the budget expenditure for 2017, there is a balance of risks mostly tilted towards higher deficits than forecasted in the Fiscal-Budgetary Strategy, under the assumption of unchanged fiscal -budgetary policies.

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