Romanian financial markets

In conclusion, just as its economy, the Romanian banks and capital market has made considerable progress over the last decade. With the banking sector, Government ownership levels have declined and foreign bank ownership has expanded. Lending to the private sector increases each year and is expected to double from 2003 to 2007. The intermediation levels however are still well below average EU levels. Banks have been concentrating more on consumer financing, however business banking remains important. Credit cards usage has grown exponentially with up to 5 million users in 2003, which was a 25 percent increase on 2002 (EIU, 2004). The government's efforts to reform the sector include the so-called "A Strong Capital Market" programme in mid-2004 which was designed in three stages. The first was to encourage the trading of government securities, the creation of a mortgage bond market and the privatisation of additional large SEs. The second was intended to merge the existing exchanges and otherwise improve the capital market's infrastructure. Finally, the third was directed at developing pension funds. Improvements can be characterised on the supply side with that of the companies themselves and on the purchase side with the investors and the infrastructure. More funds are formally used in the economy due to the privatisation process whereby previously state-owned assets have been sold. The privatisation process, however, is not yet complete and a number of potentially attractive listed companies still remain in state hands rather than on the stock exchange. Agricultural farms for instance were state owned during the socialist period, and now can be privately owned. Although mortgage backed securities and securitisation do not yet exist, such developments will lead to more funds being available. On the purchase side of the investment equation could be the potential growth of the pension and mutual funds, venture capital funds and FICs. In addition Romanians are underinsured and this market is also set to rise. Pension funds need to be accumulated to provide more funds for investment, although this is difficult at the state level where current monies received are used to pay current retirees. Mutual funds which used to act as quasi-banks have recently tended to invest conservatively in government securities (after a spate of failed investor schemes in the early 1990s) and could potentially expand their asset portfolios to include more stocks. On the macroeconomic front, the inflation rate for 2005 is hoped to be just 7 per cent, which is certainly an improvement on the extreme levels experienced in the 1990s. The macroeconomic instability of the 1990s made investors nervous whilst market-based systems emerged. Early 2005, Romania was under discussions with the IMF to liberalise its capital account further with a plan for non-residents to be granted access to short-term bank deposits by 10 April 2005. Nervousness remains over the potential ability of foreigners to destabilise macroeconomic stability with such a move as domestic interest rates are high. The leu is expected to appreciate in value as a result. In the meantime the informal market remains significant and Euromoney (1 April 2001) once reported claims that some 50 per cent of GDP is not visible. In addition as part of the reform process and particularly with the alignment to EU principles, improvements have been made in corporate governance and disclosure rules, although it is noted that corruption remains a persistent problem. As the World Bank (2005, p. xiii) commented, "improving corporate governance remains a prerequisite to financial sector development in Romania and in particular to capital markets development." The rules regarding the roles and responsibilities of directors and management need much improvement and the financial disclosure remains fair below international standards. Further to this World Bank (2005, p. 2) concluded, "despite the recent adoption of a corporate governance code, corporate governance lags significantly behind OECD principles." More regulation may result in both overlap and overkill. For instance, the high levels of capital required for banks, is like a tax on the banks and prevents them from investing the money with higher returns. In 2005, the Romanian government announced plans for significant changes in the taxation system with personal and corporate tax rates of 18-40 and 25 per cent, respectively, cut to a single flat tax of 16 per cent. Besides stimulating the economy, the lower rates and their supposed simplicity was intended to attract those in the informal sector to report their activities. In early 2005, the Romanian government also announced that it would increase its capital gains tax from 1 to 10 per cent in April 2005 in line with IMF recommendations. In January 2005, the Romanian parliament debated a move to join Romania's three regulatory bodies: the NBR, CSA and CNVM, to cover the banks, insurance companies and the securities market within the one regulator entity. But despite a number of recent improvements, "a number of deficiencies still remain in the institutional, legal and regulatory framework for capital markets" (World Bank, 2005, p. 2). The challenge remains once Romania joins the EU to integrate with the single EU wholesale market and open up to the EU retail market. Tax, legal and governance systems will need to be in line with EU standards. Minority shareholders need further protection. Together with the diffuse shareholder structure of the Romanian companies resulting from the mass privatisation programme, minority shareholders were left unprotected from the abuses of majority shareholders. Also accounting standards need to be overhauled to align with international practice. It is difficult to make direct comparisons with firms in other countries due to differing practices. Inventories, for instance, have been measured through the weighted average cost method, which has meant operating costs were reported low in inflationary periods. Also provisioning of doubtful debts and obsolete tangible assets is allowed, but companies seldom use it adding to the confusion over firms' true position. Romania's financial markets are continuing the development process with the added incentive to possibly join EU financial markets. The 1990s were characterised by instability due fundamentally to macroeconomic shocks in inflation and exchange rates. More recent reforms appear promising and financial markets are being aligned with EU standards. Pension reform is imperative however and remains a threat with an aging population. Perhaps the government could invest some monies from current budgets into pension schemes for future payments even though the current pay-as-you-go system does not provide adequate cover. Foreign investment will be further aided by Romania's eligibility to follow the OECD Declaration on International Investment and Multinational Enterprises achieved in December 2004. Provided Romania attains EU membership, financial market development is expected to expand much further and faster due to more competitive pressures from EU counterparts.