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icant Significant Conclusion over two years Compliance deviation deviation deviation deviation Notes 1 The most favourable level of the structural balance, measured as a percentage of GDP reached at the end of year t-1, between spring forecast (t-1) and the latest forecast, determines whether there is a need to adjust towards the MTO or not in year t. A margin of 0.25 percentage points (p.p.) is allowed in order to be evaluated as having reached the MTO. 2 Structural balance = cyclically-adjusted government balance excluding one-off measures. 3 Based on the relevant structural balance at year t-1. 4 Based on the position vis-à-vis the MTO, the cyclical position and the debt level (See European Commission: Vade mecum on the Stability and Growth Pact, page 38.). 5 Required adjustment corrected for the clauses, the possible margin to the MTO and the allowed deviation in case of overachievers. 6 Change in the structural balance compared to year t-1. Ex post assessment (for 2014) is carried out on the basis of Commission 2015 spring forecast. 7 The difference of the change in the structural balance and the corrected required adjustment. 8 Reference medium-term rate of potential GDP growth. The (standard) reference rate applies from year t+1, if the country has reached its MTO in year t. A corrected rate applies as long as the country is adjusting towards its MTO, including in year t. 9 Deviation of the growth rate of public expenditure net of discretionary revenue measures and revenue increases mandated by law from the applicable reference rate in terms of the effect on the structural balance. The expenditure aggregate used for the expenditure benchmark is obtained following the commonly agreed methodology. A negative sign implies that expenditure growth exceeds the applicable reference rate. Source : Convergence Programme (CP); Commission 2016 spring forecast (COM); Commission calculations. 13 5. FISCAL SUSTAINABILITY Romania does not appear to face fiscal sustainability risks in the short run.3 Based on Commission forecasts and a no-fiscal policy change scenario beyond forecasts, general government debt, at 38.4% of GDP in 2015, is expected to steadily rise to 56.2% in 2026, thus remaining below the 60% of GDP Treaty threshold. This highlights medium risks for the country from debt sustainability analysis in the medium term. The full implementation of the convergence programme would put debt on a broadly stable path by 2026. The medium-term fiscal sustainability risk indicator S1 is at 0.7 pps. of GDP, primarily related to the high initial budgetary position, thus indicating medium risks in the medium term. The full implementation of the convergence programme would put the sustainability risk indicator S1 at -1.5 pps. of GDP, leading to low medium-term risk. Overall, risks to fiscal sustainability over the medium-term are, therefore, medium. Fully implementing the fiscal plans in the convergence programme would decrease those risks. The long-term fiscal sustainability risk indicator S2 (which shows the adjustment effort needed to ensure that the debt-to-GDP ratio is not on an ever-increasing path) is at 3.8 % of GDP. In the long-term, Romania therefore appears to face medium fiscal sustainability risks, primarily related to high initial budgetary position. The projected ageing costs, in particular related to health care and long-term care, also contribute negatively. Full implementation of the programme would put the S2 indicator at 2.5 pps. of GDP, leading to a somewhat lower level, but still similar category of long-term risk. Implementing reforms to contain the projected age-related increase in spending could improve fiscal sustainability over the long term. This includes completing the pension reform and implementing the second pension pillar. Under national legislation, the completion of the second pillar requires the financing of privately managed pension funds to reach 6 percentage points of the employees' contribution to the pension system. Contrary to the original provisions, the 2016 budget provides for transfers corresponding to only 5.1 percentage points of contributions, in effect delaying the implementation of the pension reform. The convergence programme provides for further delay in 2017, when the part of the contributions accruing to the second pillar will increase to 5.5 percentage points. 3 This conclusion is based on the short-term fiscal sustainability risk indicator S0, which incorporates 14 fiscal and 14 financial-competitiveness variables. The fiscal and financial-competitiveness sub-indexes (reported in table 5) are based on the two sub-groups of variables respectively. For sustainability risks arising from the individual variables, by country, see the Commission's Fiscal Sustainability Report 2015 (page 67). 14 Table 5: Sustainability indicators 15 6. FISCAL FRAMEWORK The fiscal framework4 in Romania is sound in its provisions but is not applied effectively in practice. It requires that the medium-term budgetary objective cannot be lower than an annual structural general government balance of -1 % of GDP (or -0.5 % if public debt exceeds 60 % of GDP) and that in case of deviation the structural balance should converge towards this level at the path agreed with the Commission. Moreover, public debt cannot exceed 60 % of GDP. In 2015 Romania overperformed the structural balance target and public debt was well below the level of 60 % of GDP. The convergence programme reflects the provisions of the 2016 budget and the 2016-2018 medium–term fiscal strategy both adopted in December 2015 in breach of the structural deficit rule. Namely, the convergence programme foresees that the structural balance will deteriorate in both 2016 and 2017 and will fall significantly below the MTO of -1% of GDP. In 2018-2019, the programme foresees the structural balance to improve, but to still remain below the MTO. Public debt is planned in the programme to remain well below the threshold of 60 % of GDP for the entire period. According to the national Fiscal Council5, "the construction of the draft budget for 2016 (and its medium-term projection) is a textbook example for everything that the Fiscal Responsibility Law no. 69/2010 was designed to prevent – simultaneous enactment of tax cuts and increases in the expenditure, both having a permanent budgetary impact, likely to create the premises for lasting and very difficult to correct deviations from a balanced budget (…) The draft budget for the year 2016 is characterized by a deliberate and large deviation from all fiscal rules imposed by both national legislation and the European treaties signed by Romania and induces a significant vulnerability for the position of the public finances." In conclusion, based on the information provided in the convergence programme, the planned fiscal performance in Romania appears not to comply with the requirements of the applicable national numerical fiscal rules. 7. CONCLUSIONS In 2015, Romania's structural balance remained above the MTO. However, Romania plans a significant deterioration of the structural balance in both 2016 and 2017. This path implies a deviation of above 0.5% of GDP from the required adjustment path towards the MTO in 2016 and in 2017. Therefore, based both on the information from the programme and according to the Commission 2016 spring forecast, there is a risk of significant deviation both in 2016 and 2017. Moreover, although the programme projects the headline deficit to remain at 2.9% of GDP in 2017, according to the Commission's spring 2016 forecast Romania's deficit is projected to exceed the 3% of GDP reference value in 2017 based on a no-policy change assumption. 4 In particular the fiscal responsibility law no. 69/2010 (amended by law no. 377/2013). 5 Fiscal Council’s opinion on the State Budget Law, the Social Insurance Budget Law for 2016 and the Fiscal Strategy for 2016-2018, available at http://www.fiscalcouncil.ro/Opinii-eng-2015.pdf 16 8. ANNEX Table I. Macroeconomic indicators 1998- 2003- 2008- 2013 2014 2015 2016 2017 2002 2007 2012 Core indicators GDP growth rate 2.1 6.6 0.5 3.5 3.0 3.8 4.2 3.7 1 Output gap -3.3 4.3 -1.4 -3.1 -2.1 -1.1 0.0 0.3 HICP (annual % change) 41.5 9.5 5.8 3.2 1.4 -0.4 -0.6 2.5 Domestic demand (annual % change) 2 3.2 11.3 -0.8 -0.1 3.1 5.3 6.4 4.9 Unemployment rate (% of labour force) 3 7.3 7.3 6.6 7.1 6.8 6.8 6.8 6.7 Gross fixed capital formation (% of GDP) 19.8 26.3 29.0 24.7 24.2 24.7 24.7 25.2 Gross national saving (% of GDP) 15.5 16.7 22.5 24.9 25.4 24.7 23.4 23.2 General Government (% of GDP) Net lending (+) or net borrowing (-) -3.5 -1.7 -6.2 -2.1 -0.9 -0.7 -2.8 -3.4 Gross debt 22.2 16.1 27.6 38.0 39.8 38.4 38.7 40.1 Net financial assets 38.5 15.7 -4.4 -19.4 -19.6 n.a n.a n.a Total revenue 33.2 32.9 32.9 33.1 33.5 34.8 31.8 31.5 Total expenditure 36.8 34.6 39.1 35.2 34.3 35.5 34.6 34.9 of which: Interest 3.8 1.2 1.4 1.7 1.7 1.6 1.7 1.7 Corporations (% of GDP) Net lending (+) or net borrowing (-) -7.5 -2.8 6.2 -1.5 15.3 14.0 12.8 11.3 Net financial assets; non-financial corporations -85.2 -92.3 -90.2 -93.8 -91.5 n.a n.a n.a Net financial assets; financial corporations -0.1 -1.9 3.5 4.9 4.1 n.a n.a n.a Gross capital formation 14.7 19.8 17.7 15.0 15.6 16.6 17.7 18.7 Gross operating surplus 23.6 25.7 28.5 31.1 32.6 32.2 32.8 32.4 Households and NPISH (% of GDP) Net lending (+) or net borrowing (-) 6.9 -4.0 -5.6 5.2 -11.1 -10.2 -9.1 -8.4 Net financial assets 34.8 43.9 29.8 46.5 49.7 n.a n.a n.a Gross wages and salaries 31.0 30.6 30.3 26.7 27.5 27.7 28.8 29.3 Net property income 6.3 0.7 0.2 15.1 0.0 -0.3 0.3 0.5 Current transfers received 14.8 14.8 14.9 13.0 12.6 12.5 12.4 12.1 Gross saving -1.7 -6.8 -3.8 9.4 -7.8 -8.2 -7.0 -6.3 Rest of the world (% of GDP) Net lending (+) or net borrowing (-) -4.1 -8.6 -5.3 1.5 2.8 1.5 0.1 -0.7 Net financial assets 14.8 36.5 63.9 63.8 59.4 n.a n.a n.a Net exports of goods and services -6.1 -10.5 -7.3 -0.8 -0.3 -0.5 -1.6 -2.5 Net primary income from the rest of the world -1.0 -3.1 -1.2 -1.9 -0.8 -1.8 -1.7 -1.4 Net capital transactions 0.2 0.5 0.6 2.1 2.6 2.4 2.2 2.1 Tradable sector 60.6 56.0 51.5 50.2 49.9 48.8 n.a n.a Non tradable sector 29.2 32.7 37.3 37.9 38.5 39.0 n.a n.a of which: Building and construction sector 5.5 7.3 9.2 7.0 7.2 7.4 n.a n.a Real effective exchange rate (index, 2000=100) 71.4 84.5 99.2 89.8 91.7 87.7 88.4 88.9 Terms of trade goods and services (index, 2000=100) 72.0 83.1 99.7 101.6 103.2 106.1 108.7 109.2 Market performance of exports (index, 2000=100) 65.4 89.9 100.3 127.9 133.6 133.9 134.2 133.7 Notes: 1 The output gap constitutes the gap between the actual and potential gross domestic product at 2005 market prices. 2 The indicator on domestic demand includes stocks. 3 Unemployed persons are all persons who were not employed, had actively sought work and were ready to begin working immediately or within two weeks. The labour force is the total number of people employed and unemployed. The unemployment rate covers the age group 15- 74. Source : AMECO data, Commission 2016 spring forecast 17