The month of political aberrations

Over 9.4 million citizens who went to the polls on November 24 had their options canceled by the Constitutional Court of Romania, which, after validating the first round of the presidential elections on December 2, reversed its decision on December 6 and canceled the entire presidential election, at a time when the second round was underway at polling stations abroad. The scandal regarding the cancellation of the presidential elections continued throughout December, with the authorities fumbling around in search of the necessary evidence to strengthen the CCR's decision, while the High Court of Cassation and Justice began a real ping-pong with the Bucharest Court of Appeal regarding the decline of competence to resolve the appeals filed by the sovereignists regarding the decision of the CCR and the Central Electoral Bureau.

Despite the massive vote for the sovereignist parties, which took 34% of the voters' votes on December 1, the government was formed by pro-European forces, less USR, who decided that Marcel Ciolacu was the best prime minister for the next four years. The same Ciolacu who had a government that left us at the end of last year, according to preliminary data from the Ministry of Finance on December 30, 2024, a budget deficit of over 8.5% of the Gross Domestic Product, that is, over 190 billion lei, well above the 5% deficit approved in 2023 by the state budget law for 2024.

After remaining at the helm of government, the new PSD-PNL-UDMR coalition and the group of national minorities, frightened by Fitch's forecast regarding the negative outlook of the rating granted to our country, adopted the small train ordinance in which it reintroduced the pillar tax, increased the taxes applied to energy producers, reduced the turnover threshold for taxing micro-enterprises and canceled all the tax facilities that employees in the construction, IT and agriculture sectors benefited from. Moreover, the new regulatory act established the freezing of pensions in 2025, the freezing of salaries in the public sector and the suspension of competitions for the occupation of certain public positions.

• The shadow of extremism threatens democracy

The last month of last year was marked by the result of the parliamentary elections on December 1, but also by the inconsistency of the Constitutional Court of Romania which, after validating the first round of the presidential elections on December 2 and finding that Elena Lasconi and Călin Georgescu would face each other in the second round on December 8, on December 6 - while some of the Romanian citizens in the Diaspora were exercising their right to vote in the presidential elections - annulled the entire election based on documents presented by the secret services at the meeting of the Supreme Council for National Defense 10 days earlier.

The CCR decision drew discontent from Georgescu's voters, but also from those who sympathize with AUR, POT and SOS, parliamentary parties following the December 1 vote, in which they obtained 34% of the mandates in the current Legislature, who throughout the month organized several protests for the resumption of the second round of the presidential elections. The CCR decision and the final report drawn up by the Central Electoral Bureau regarding the annulment of the presidential elections were contested at the High Court of Cassation and Justice, both by Călin Georgescu and George Simion, as well as by the Young People's Party (POT) - the political party that supported Georgescu in the respective elections. Until the end of last month, all requests submitted to the courts in this regard were rejected by magistrates on the grounds that the CCR's decisions are binding for everyone and unassailable.

Regarding the parliamentary elections, following the vote cast by over 9.4 million citizens on December 1, the following configuration of the Romanian Parliament resulted: PSD-122 seats, AUR-91 seats, PNL-71 seats, USR-59 seats, SOS Romania-40 MPs, UDMR-32 MPs, POT-31 seats, National Minorities Group - 19 seats (in the Chamber of Deputies).

Immediately after the December 1 elections, the pro-European parties - PSD, PNL, USR, UDMR - started negotiations for the formation of the future majority coalition in Parliament that would also form the new government, negotiations in which they also co-opted the national minorities group. Following differences of opinion regarding the fiscal measures that were to be taken to reduce the budget deficit in 2025, measures that were to be included in the government program, those from USR refused to be part of the future governing coalition, so after the agreement signed by the PSD-PNL-UDMR leaders and the representative of the National Minorities Group and after the establishment of the new Parliament on December 20, interim president Klaus Iohannis, whose mandate expired on December 21, appointed Marcel Ciolacu prime minister in charge of forming the new government.

The Ciolacu 2 Government passed the Parliament's vote on December 23, with 240 votes in favor and 143 against, after which it took the oath of office at Cotroceni Palace on the same day. AUR, SOS, POT and USR parliamentarians accused the way in which the new ministers were heard in the specialized committees, through the fast-forward procedure, in which each parliamentary group was able to ask a single question or at most two for each nominated person.

According to the vote expressed by Parliament, the composition of the new Government is as follows: Marcel Ciolacu - Prime Minister; Radu Marinescu - Minister of Justice; Sorin Grindeanu - Minister of Transport; Alexandru Rafila - Minister of Health; Angel Tîlvăr - Minister of Defense; Natalia Intotero - Minister of Culture; Florin Barbu - Minister of Agriculture; Simona Bucura Oprescu - Minister of Labor and Family; Bogdan Ivan - Minister of Economy and Digitalization; Cătălin Predoiu - Minister of Internal Affairs; Sebastian Burduja - Minister of Energy; Emil Hurezeanu - Minister of Foreign Affairs; Daniel David - Minister of Education; Marcel Boloş - Minister of European Funds; Mircea Fechet - Minister of Environment; Tanczos Barna - Minister of Finance; Csele Attila - Minister of Development.

• Negative outlook for our country

Before the formation of Parliament and the inauguration of the new government, on December 17, the rating agency Fitch revised Romania's IDR outlook (long-term debt) from stable to negative and confirmed the IDR at BBB-. Among the reasons cited, Fitch cited political risk factors, including "eroded political credibility" and political uncertainty, as well as fiscal slippage and unsustainable spending. According to the press release issued by the rating agency, the top "high" factor that led to the decision to revise the outlook is "political uncertainty".

"Political uncertainty has increased to high levels, and our assessment is that this is likely to have a significant negative effect on fiscal consolidation. The presidential election process was annulled by the Constitutional Court after the surprise victory in the first round of the ultranationalist candidate Călin Georgescu, due to alleged foreign/Russian electoral interference. The Constitutional Court also extended the mandate of the current president, Klaus Iohannis, which was originally due to end on 21 December 2024, until the election of a new president", the quoted source says.

Fitch also notes what it calls a "more divided parliament", with an increase in the share of far-right parties, resulting from the parliamentary elections. The press release states: "The parliamentary elections, held after the first round of the presidential elections, resulted in a more divided parliament, with an increase in the number of far-right and anti-EU parties, reflecting the increasing polarization of Romanian society. A new pro-European coalition government of four parties is likely to be formed before the end of 2024. However, the sustainability of such a coalition is uncertain, and new presidential elections, probably scheduled for March 2025 at the earliest, will keep political uncertainty high and, in our view, will likely also delay the implementation of fiscal consolidation measures."

Another factor taken into account by Fitch is the large budget deficit, revised by the agency to increase to 8.2% of GDP in 2024, one percentage point above the agency's August forecast. Among the causes, Fitch lists public sector wage bill and "unfunded pre-election pension increases."

Fitch experts say: "The larger-than-expected fiscal deterioration mainly reflects the rapid growth in spending, including public sector wages and unfunded pre-election pension increases. The full-year impact of the September 2024 pension increase will add to fiscal pressures next year, making future consolidation even more difficult. While we assume fiscal consolidation will start in 2025, we have revised up our general government deficit forecast to 7.5% of GDP in 2025 and 6.8% in 2026, more than double the current BBB median projection of 3.2% in 2025-2026. In our view, fiscal consolidation is likely to face difficult trade-offs due to the potential negative impact on already weak economic growth and the risk that financial market volatility will increase interest costs, further weakening the fiscal position. (...) Our forecasts point to a steeper upward slope in the debt path compared to previous years, as primary deficits remain large and nominal growth slows significantly. In our base case, the public debt-to-GDP ratio would increase from 49% in 2023 to 62% in 2026, above the current BBB median projected at 56%, and would continue to rise sharply to around 70% of GDP in 2028".

Fitch also sees net external debt increasing from 12% in 2023 to 20% of GDP in 2026, significantly above the 3% projected for the "BBB" median, from 12% in 2023.

A plus for Romania is, according to Fitch, its solid banking sector: "The Romanian banking sector is well capitalized (total capital ratio of 25.0% at end-Q324), profitable (annualized return on assets in 9M24 of 1.9%) and liquid, with funding coming mainly from granular deposits from local customers. Despite economic challenges, asset quality remained solid, with a non-performing loan ratio of 2.5%. Profitability likely peaked in 2023, but should remain high for large banks over the next two years, although the turnover tax has a more significant impact on small banks".

• Deficit budget execution in 11 months

The execution of the general consolidated budget in the first eleven months of 2024 ended with a deficit of 125.72 billion lei, or 7.12% of GDP, compared to a deficit of 73.55 billion lei, or 4.58% of GDP, for the 11 months of 2023, the Ministry of Finance announced on December 31, in a press release.

Total revenues amounted to 523.94 billion lei in the first eleven months of 2024, registering an advance of 12.7% (year/year), supported mainly by collections from current revenues - insurance contributions, VAT, excise duties, payroll and income tax, profit tax -, which also include the effects of the tax amnesty established by GEO 107/2024.

The expenditures of the general consolidated budget in the amount of 649.66 billion lei increased in nominal terms by 20.6% compared to the same period of the previous year. Expressed as a percentage of Gross Domestic Product, expenditures for the first eleven months of 2024 registered an increase of 3.2 percentage points compared to the same period of 2023, from 33.6% of GDP to 36.8% of GDP.

Of the total budget expenditures, personnel expenditures amounted to 148.04 billion lei, up 23.8% compared to the same period of the previous year. Expressed as a share of GDP, personnel expenditures represent a level of 8.4% of GDP, 0.9 percentage points higher than the same period of the previous year, taking into account the salary increases granted in 2023 and 2024, respectively. Expenditure on goods and services was 84.01 billion lei, up 22.3% compared to the same period of the previous year. An increase is reflected in local budgets, respectively 14.6% compared to the same period of the previous year, as well as in the budget of the National Single Social Health Insurance Fund of 26% for the settlement of medicines with and without personal contribution and medicines used in national health programs.

Interest expenses were 35.33 billion lei, 5.27 billion lei higher than the same period of the previous year.

Social assistance expenses were 205.29 billion lei, up 16.2% compared to the same period of the previous year. Of the total social assistance expenses, 3.4 billion lei represent payments from the state budget to compensate for electricity and natural gas consumption bills during the period January 1-November 30, 2024.

Investment expenses, which include capital expenditures, as well as those related to development programs financed from domestic and external sources, were 93.11 billion lei, up 23.99% compared to the same period of the previous year, when they were 75.10 billion lei.

• "Trenuleţ Ordinance" to reduce budget spending

In these conditions, but also based on the seven-year plan agreed with the European Commission in November, the Government adopted, on December 30, 2024, the famous "Trenuleţ" ordinance, which introduces a set of fiscal and budgetary measures that aim to reduce the budget deficit, support public investments and optimize the functioning of the state by reducing excessive spending.

The emergency ordinance approved by the Government focuses on three major directions:

- Reducing the budget deficit: Reducing the deficit below the 7% of GDP threshold in 2025, according to the commitments made to the European Commission.

- Stopping waste: Reducing state spending by 1% of GDP, by optimizing public institutions and eliminating unnecessary spending.

- Increasing budget revenues: The fiscal reforms introduced through the National Recovery and Resilience Plan (PNRR) include eliminating tax incentives and increasing the tax rate on dividends.

To transform the state into a more effective partner for citizens and the business environment, the normative act provides for:

- Freezing the salaries of public sector employees and suspending the granting of awards and bonuses.

- Merging public institutions: A phased reduction of state agencies, coordinated by a new Department for the efficiency of government activity.

- Freezing state employment: Gradual reduction of personnel through natural departures and professional reconversion to the private sector.

The ordinance introduces important changes in the fiscal field, aimed at increasing budget revenues. These changes refer to the increase in the dividend tax from 8% to 10% (the estimated additional revenues are 1.4 billion lei), the reduction of the threshold for applying the micro-enterprise tax rate to 250,000 euros in 2025 and 100,000 euros in 2026 (compared to 88,500 euros as requested by the European Commission) and the introduction of the tax on special constructions (the so-called pillar tax), a 1% tax on other constructions than those already taxed at the local level, with implementation rules within 90 days. Tanczos Barna, the Minister of Finance, stated after the government meeting that the first payment of this tax will be made starting with July 1, and the second after October 1.

As for the reduction in budget expenditures, it will be between 120 billion and 130 billion lei, and the Minister of Finance has shown that their reduction is necessary because the preliminary execution for last year shows a cash budget deficit of over 8.5% of GDP, placing it somewhere around 150 billion lei. Therefore, the government has decided that salary rights will remain at the level of November 2024 and to cancel bonuses, prizes and meal vouchers, to contribute only half of the value of vacation vouchers granted in the budgetary sector, but also to make institutional reorganizations by merging some public agencies and institutions, a merger that would lead to the layoff of almost 20-25% of budgetary personnel.

In the motivation for the decision to adopt the trenulet ordinance, the Government stated that the respective measures do not represent a form of austerity, but a necessary fiscal-budgetary resettlement, with the aim of providing one-off support for low-income pensioners for vulnerable categories, reducing the tax burden by maintaining fiscal competitiveness, and continuing public investments financed from the state budget through the "Anghel Saligny" program and the PNDL.

• Business environment dissatisfied with the provisions of the "trenulet ordinance"

The entire business environment in Romania, from the IT&C sector to the hospitality, food and agricultural industries, reacted vehemently against the fiscal measures adopted by the Government through the controversial "trenulet ordinance". Representatives of federations and employers' organizations have issued harsh criticisms of the proposed measures, which they consider hasty and harmful to the economy. Among the main points of dissatisfaction are:

- the reduction of the threshold for micro-enterprises to 250,000 euros in 2025 and 100,000 euros in 2026, is considered an "illegal" and "devastating" measure for small and medium-sized enterprises (SMEs)

- the increase in dividend tax from 8% to 10%, applied untimely, will seriously affect the tax planning of companies.

- the elimination of tax facilities for IT&C, construction, agriculture and the food industry will have a direct impact on the competitiveness of these strategic sectors.

The Federation of Hospitality Employers agreed with the compromise on holiday vouchers, but stressed that "the reduction of the ceiling for micro-enterprises is a major mistake" which, in combination with the increase in the minimum wage, risks leading to the closure of half of small companies. The food industry, represented by Romalimenta, warned that the elimination of tax incentives will lead to an increase in product prices and a decrease in the competitiveness of domestic producers. According to Romalimenta representatives, these measures favor imported products and endanger the stability of the domestic market.

The Federation of Trade Unions in IT&C (FSITC) criticized the elimination of tax exemptions, stating that the measure adopted by the Government directly affects employee incomes and the fiscal planning of companies in this strategic sector. Trade unionists believe that the approach of "small train ordinances", adopted in haste and without consultation, undermines the business environment's trust in the Romanian state.

The National Federation PRO AGRO drew attention to the negative effects on agriculture and related services, noting that the proposed measures will deepen the trade deficit on food products. According to farmers, in the context of unfavorable regulations and increased competition from foreign markets, Romanian agriculture risks becoming a simple exporter of raw materials.

IMM Romania, Romanian Business Leaders (RBL) and other private sector employers' organizations have unsuccessfully requested the Government to postpone the implementation of fiscal measures by six months and to adopt concrete measures to reduce public spending.