ROMANIA AND IMF REACH AGREEMENT ON 19.5 BILLION

C O N F I D E N T I A L SECTION 01 OF 02 BUCHAREST 000205

SIPDIS

STATE FOR EUR/FO DAS GARBER, EUR/CE ASCHEIBE, EUR/ERA, EEB
TREASURY FOR JBAKER AND LKOHLER

E.O. 12958: DECL: 03/24/2019
TAGS: EFIN ECON IMF EUN PREL PGOV RO
SUBJECT: ROMANIA AND IMF REACH AGREEMENT ON 19.5 BILLION
EURO FINANCING PACKAGE

REF: BUCHAREST 180

Classified By: Charge d'Affaires Jeri Guthrie-Corn for reasons 1.4 (b)
and (d).


1. (U) International Monetary Fund (IMF)-led negotiations
with the Government of Romania (GOR) over a financial
assistance package successfully concluded on March 25th. The
IMF, European Commission (EC),World Bank (WB),and other
international financial institutions (IFIs) (principally the
European Bank for Reconstruction and Development (EBRD)) have
agreed with the GOR to a two-year, 19.5 billion euro (26.29
billion USD) package. The centerpiece of the announced plan
is a 12.5 billion euro equivalent standby agreement with the
IMF. For its part, the EC has agreed to an additional five
billion euro in support, while the WB and IFIs will each
contribute approximately one billion euro. The GOR must now
finalize the deal through a formal letter of intent to the
IMF which must be approved by the IMF Board. Assuming that
goes smoothly, the National Bank of Romania (BNR) should be
able to draw the first five billion euro funding tranche in
late April or early May.


2. (U) Although the full details of the various components
of the program have yet to be released, the IMF characterized
the overall program as one that will "cushion the effects of
a sharp drop in private capital inflows while implementing
policy measures to address the external and fiscal imbalances
and to strengthen the financial sector." During a press
conference announcing the package, the head of the IMF
negotiating team, Jeffrey Franks, stated that the program
will maintain the BNR's current inflation-targeting policy
and not change the BNR's foreign exchange rate "managed
free-float" policy. The IMF program will target a GOR budget
deficit of 5.1 percent of GDP in 2009, allowing the GOR to
maintain a certain level of social spending, while also
working with the GOR to bring the fiscal deficit below three
percent of GDP by 2011.


3. (U) To ensure the continued stability of the Romanian
banking system and to increase liquidity in credit markets,
the IMF program envisions having the BNR cut its minimum
foreign currency reserve requirements for commercial banks.
As most of the large domestic banks are foreign-owned, the
IMF plans to meet with the CEOs of the ten largest foreign
banks in Romania to ensure that they reaffirm the established
credit lines with their subsidiaries and to extract a promise
that any released reserves will be kept in Romania and not
repatriated.


4. (U) The broader program will seek to improve GOR fiscal
capacity through more effective and transparent budgeting.
The public sector will be targeted for reform, with the goal
of replacing the current employee pay system -- where
generally low take-home pay is supplemented heavily with
bonuses -- with a common pay scale across the various
ministries. The public pension system will be a focal point
for reform, and state-owned companies will be more closely
monitored to ensure they maintain reasonable spending plans.


5. (C) Comment. After taking very adamant public stances in
late 2008 that Romania would not go to the IMF, the political
leadership -- including President Basescu, Prime Minister
Boc, and PSD leader Mircea Geoana -- have done a complete
about-face in under three months. Romania should be
commended for taking this more pro-active approach while
there is still some economic breathing room, rather than
waiting for a burgeoning crisis to force its hand. While the
long-awaited announcement of an IMF program should provide a
framework for greater financial sector stability and more
predictable GOR budget execution through 2009, the devil will
be in the details. An immediate issue with the announced
program is the high budget deficit Romania will be allowed to
run. Admittedly, this is based on very pessimistic IMF
projections of minus 4 percent GDP growth with a resulting,
very sharp decline in GOR revenues; a slightly better GDP
performance could in theory keep the deficit lower. However,
for a country that routinely overshoots deficit targets, an
allowance for 5.1 percent of GDP may be treated, if history
is any guide, as a license to spend 1-2 percent more than
that. Romania has a very poor track record of seeing IMF
agreements through to the bitter end -- not one, in fact, has
been completed, with targets fully met, in the post-communist
era. The jury is still out as to whether or not this
agreement will stick for a full two years, or if it will be
abandoned at the first glimmer of an economic recovery. The
agreement also depends on the cooperation of commercial banks

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not to repatriate capital in response to lower BNR reserve
requirements; even gentlemen's agreements with the IMF may
not be enough to keep the money in Romania if parent banks
come under severe distress.


6. (C) Comment continued. The final outlines of the package
also reveal the tough bargaining within the GOR ruling
coalition over its terms, with the PSD appearing to have won
important concessions from their PD-L partners and, in turn,
from the IMF. The high fiscal deficit, focus on social
spending, and promise of pension reform (which may be code
for shoring up funding of traditional "pillar 1" state
pensions at the possible expense of "pillar 2" private
pension accounts) all appear to have PSD fingerprints on
them. PD-L leaders, Basescu especially, aren't going to sit
back and let Geoana take all the credit, but the terms
certainly provide plenty of fodder for the fall presidential
election campaign. Yet another wild card is the reaction of
public sector workers, who have threatened crippling strikes
if the IMF terms are too austere. At first glance the
package could mollify some of their concerns and thus remove
a potential major obstacle to implementation, but that is not
a given even if the PSD publicly backs the agreement. Post
will report more extensively on the terms of the agreement,
and its impact in the political sphere, in the coming weeks.
End Comment.
GUTHRIE-CORN